Estimating a New Keynesian Wage Phillips Curve for South Africa

Abstract

Abstract This article estimates a New Keynesian Wage Phillips Curve for South Africa to investigate the responsiveness of nominal wages to labor market conditions. The estimation is based on a model with staggered nominal wages setting, where all variations in hired labor input are taking place at the extensive margin. First, we estimate the model using aggregate data from 1971 to 2013. Aggregate estimation results show that private sector nominal wages are not very responsive to employment conditions, while they also reveal a certain sensitivity to inflation and quite a good correlation with inflation expectations. On the other hand, the relationship between nominal wage inflation and price inflation is quite strong and robust for the whole sample. However, it becomes quantitatively weak for the inflation targeting period. In that period, trade unions’ inflation expectations are, instead, strongly correlated with nominal wage inflation. In the second part of the article, we assess the response of nominal wages to employment, labor productivity, and output prices, given the reservation wage using a panel of nine industrial sectors over the period 1970–2013. The findings confirm that nominal wage inflation has consistently outpaced the growth in productivity, even after correcting for price inflation, and that employment conditions had little effect on wage dynamics. We also test for the possibility that the dynamic of wages is anchored by an underlined reservation wage to investigate the presence of an error correction term in the wage equation for South Africa. The overall picture that emerges from the analysis is that of a wage formation mechanism that is very insensitive to overall macroeconomic conditions.