Abstract
We study the causal effects of downward nominal wage rigidity after a deflationary monetary policy shock using Swiss data on employee‐level contractual wages matched with income and employment from social security register data. We exploit the discontinuity around the origin of the wage growth distribution to compare the outcomes of individuals with wage freezes (treatment group) and small wage cuts (control group) before and after an unexpected decision by the Swiss National Bank leading to a 1% decline of the price level. Locally (that is, near the origin of the wage growth distribution), downward nominal wage rigidities cause a 4.4% decline in income and a 0.7 percentage point increase in the probability of unemployment. In the aggregate, income declines by 0.3% and the probability of unemployment increases by 0.05 percentage points.
Highlights
Macroeconomic models often assume that wages are infrequently adjusted to generate involuntary unemployment and inefficient business cycles
We identify the causal effect of downward nominal wage rigidity using the discontinuity of the worker-level wage growth distribution near the origin and a surprise decline in the price level after the Swiss National Bank abandoned an exchange rate floor policy in January 2015
We find that downward nominal wage rigidities reduce aggregate income and employment income by 0.39% and 0.97%, respectively, and increase unemployment by 2.11%
Summary
Macroeconomic models often assume that wages are infrequently adjusted to generate involuntary unemployment and inefficient business cycles (see, e.g., Erceg et al, 2000; Schmitt-Groheand Uribe, 2016; Born et al, 2019). Downward nominal wage rigidities are more likely to bind during low inflation or deflation (see, e.g., Fehr and Goette, 2005). We identify allocative effects of downward nominal wage rigidity to a 1% decline in the price level, when the Swiss National Bank surprisingly abandoned an exchange rate floor. We include the inverse Mills ratio as an additional regressor when estimating the impact of downward nominal wage rigidity on income and unemployment. We estimate the impact downward nominal wage rigidities on income and unemployment after the 1% deflationary shock in January 2015. We find that downward nominal wage rigidities reduce aggregate income and employment income by 0.39% and 0.97%, respectively, and increase unemployment by 2.11%.
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