Nominal Wage Stickiness Research Articles

Does Nominal Wage Stickiness Affect Fiscal Multiplier in a Two-Agent New Keynesian Model?

Abstract This study examines the effect of nominal wage stickiness on the fiscal multiplier in a two-agent new Keynesian model. We demonstrate that in the case of sticky nominal wages, an increased share of liquidity-constrained (LC) consumers decreases the money-financed (MF) fiscal multiplier. Our model shows that the fiscal multiplier under an MF regime outperforms that under a debt-financed (DF) regime. Under empirically plausible calibration, the benchmark model indicates that the MF government-spending multiplier is 1.5–3.0, whereas the DF multiplier is 0.8–1.5. We also find that an increased share of LC consumers magnifies the tax-cut multiplier in the cases of MF and DF regimes despite nominal wage stickiness.

Money demand by firms, labor market frictions, and optimal long-run inflation

Abstract Optimal monetary policy, under flexible and sticky prices, and sticky nominal wages are studied in the canonical matching model of the labor market with a working capital channel. A money demand by firms is motivated by the fact that a significant amount of M1 is held by firms. As a result of the working capital, the Ramsey-optimal monetary policy calls for inflation when employment is above the socially efficient level and for deflation when it is below that level. This result holds under flexible wages as well as nominal wage rigidities. In other words, to improve labor market efficiency, deflation is necessary to “grease the wheels of the labor market.” Although there is no relationship between optimal monetary policy and the market tightness under flexible prices, a long-run and mainly negative relationship between the optimal inflation rate and the equilibrium tightness emerges under sticky prices.

International heterogeneity of nominal wages and optimal monetary policy

AbstractThis paper examines optimal monetary policy in a two‐country model with staggered nominal prices and wages. We show that given home nominal wage stickiness, changes in the degree of foreign nominal wage stickiness substantially impact the worldwide welfare losses and gains from commitment policy. Specifically, the welfare gains from a commitment policy are greatest when nominal wages in both countries are perfectly flexible. However, when nominal wages in the foreign country are stickier, the gains from commitment decrease.

A Model of Nominal Wage Stickiness

ABSTRACT This paper builds a parsimonious model of nominal wage stickiness based on wage dispersion induced by search frictions. The paper shows that this model can explain those salient features of wage adjustment in the data, including the average frequency of wage adjustment, the average duration of a wage, and the size distribution of wage changes.

State-level wage Phillips curves

Based on US state-level data for the period 1982-2016, two reduced-form versions of New Keynesian wage Phillips curves are examined. These are based on either sticky nominal wages or real-wage rigidity. The endogeneity of unemployment is taken into account by instrumentation and the use of common correlated effects (CCE) and mean group (MG) methods. This is the first time that this methodology has been applied in this context. These are important issues, as ignoring them may lead to substantial biases. The results show that while the aggregate data do not provide estimates that are consistent with either of the theoretical models examined, the panel methods do. Moreover, use of an appropriate MG CCE estimator leads to economically significant changes in parameters (primarily a steeper Phillips curve) relative to those from inappropriate but widely used panel methods. In the real-wage rigidity case, this is required to deliver results that have a theoretically admissible interpretation.

Sticky Swedes and flexible Finns: manufacturing labour markets in Finland and Sweden during the Great Depression

ABSTRACTNominal wage stickiness is a popular explanation for the greatness of the Great Depression. According to the sticky-wage explanation, the slow adjustment of nominal wages raised real wages above the market-clearing level, causing a reduction of output and labour, thus increasing unemployment. Explanations for nominal wage stickiness are usually sought within the labour-market institutions and their changes after the First World War. This paper examines the role of labour-market institutions by comparing manufacturing labour markets in Finland and Sweden. These two countries had quite similar economic structures, trade patterns, and exchange rate policies, but different systems of industrial relations. Results indicate that stronger trade unions and collective bargaining made nominal wages stickier in Sweden, while in Finland, where collective agreements did not exist, unions were weaker, and wage adjustment was more flexible. As a result, real product wages rose in Sweden but fell in Finland. This created in Sweden stronger pressure for reducing labour input than in Finland. Our results show on one hand that labour market institutions clearly influenced the course of the Great Depression, but on the other hand that they alone do not explain the different economic outcomes during the depression and the recovery.

State-level wage Phillips curves

Two reduced-form versions of New Keynesian wage Phillips curves based on either sticky nominal wages or real-wage rigidity using monthly US state-level data for the period 1982-2016 are examined, taking account of the endogeneity of unemployment by instrumentation and the use of common correlated effects (CCE) and mean group (MG) methods. This is the first time that this methodology has been applied in this context. These are important issues, as ignoring them may lead to substantial biases. The results show that while the aggregate data do not provide estimates that are consistent with either of the theoretical models examined, the panel methods do. Moreover, use of an appropriate MG CCE estimator leads to economically significant changes in parameters (primarily a steeper Phillips curve) relative to those from inappropriate but widely used panel methods, and in the real-wage rigidity case is required to deliver results that have a theoretically admissible interpretation.

A Model of Nominal Wage Stickiness

This paper builds a parsimonious model of nominal wage stickiness based on wage dispersion induced by search frictions. The paper shows that this model can explain those salient features of wage adjustment in the data, including the average frequency of wage adjustment, the average duration of a wage, and the size distribution of wage changes.

Employment, wages and optimal monetary policy

We study optimal monetary policy when the policymaker is uncertain whether the cyclical properties of employment and wages are determined by sticky nominal wages or by search and matching frictions in the labor market. Unless the policymaker is almost certain about the search and matching model being the true data-generating process, the policymaker chooses to stabilize wage inflation at the expense of price inflation, the policy resembling the optimal policy in the sticky wage model, regardless of the true model. This finding reflects the greater sensitivity of welfare losses in the sticky wage model to deviations from the model-specific optimal policy.

Aggregate demand deficiency, labor unions, and long‐run stagnation

AbstractUsing a money‐in‐the‐utility‐function model, this paper considers long‐run stagnation where insatiable demand for money persistently creates aggregate demand deficiency and consequent unemployment in the presence of nominal wage stickiness attributed to union wage setting. In this long‐run stagnation, generous unemployment benefits reduce unemployment. Moreover, paradoxically, unemployment declines if labor unions give weight to nominal wage gains rather than employment increases.

Unemployment (Fears) and Deflationary Spirals

The interaction of incomplete markets and sticky nominal wages is shown to magnify business cycles even though these two features—in isolation—dampen them. During recessions, fears of unemployment stir up precautionary sentiments that induce agents to save more. The additional savings may be used as investments in both a productive asset (equity) and an unproductive nominal liquid asset. The desire to hold the nominal liquid asset puts deflationary pressure on the economy which, provided that nominal wages are sticky, increases labor costs, and reduces firm profits. Lower profits repress the desire to save in equity, which increases (the fear of) unemployment, and so on. This mechanism causes the model to behave differently from its complete markets version and is quantitatively important even if monetary policy counteracts the desire to hold more of the liquid asset by lowering the interest rate. The deflationary pressure yields a mean-reverting reduction in the price level, which implies an increase in expected inflation and a decrease in the expected real interest rate even if the policy rate does not adjust. Thus, our mechanism is different from the typical zero lower bound argument. Due to the deflationary spiral, our model also behaves differently from its incomplete market version without aggregate uncertainty, especially in terms of the impact of unemployment insurance on average employment levels.

Determinacy analysis in high order dynamic systems: The case of nominal rigidities and limited asset market participation

We show how to use Hurwitz polynomials to study the stability and uniqueness of Rational Expectation equilibria (REE) in Dynamic General Equilibrium models (DGE). We apply this method to a model characterized by sticky wages and prices and by limited asset market participation (LAMP). We prove analytically in a fourth-order dynamics system that, once nominal wage stickiness is taken into account, LAMP does not invalidate the Taylor Principle.

Sectoral Labor Mobility and Optimal Monetary Policy

In an estimated two-sector New-Keynesian model with durable and nondurable goods, an inverse relationship between sectoral labor mobility and the optimal weight the central bank should attach to durables inflation arises. The combination of nominal wage stickiness and limited labor mobility leads to a nonzero optimal weight for durables inflation even if durables prices were fully flexible. These results survive alternative calibrations and interestrate rules and point toward a non-negligible role of sectoral labor mobility for the conduct of monetary policy.

LIMITED ASSET MARKET PARTICIPATION, STICKY WAGES, AND MONETARY POLICY

A small amount of nominal wage stickiness makes limited asset market participation (LAMP) irrelevant for the design of monetary policy. Recent research argues that LAMP could invert the slope of the IS curve in otherwise standard New Keynesian models. This, in turn, implies that optimal monetary policy rules should be passive. We show that the so‐called inverted aggregate demand logic (IADL) relies on nominal wage flexibility. Outside of extreme parameterizations, wage stickiness prevents the inversion of the slope of the IS curve. Hence, LAMP does not generally alter the trade‐offs faced by a welfare maximizing Central Bank, and for this reason it does not fundamentally affect the design of optimal simple rules and optimal monetary policy. (JEL E21, E52)

Aggregate Demand Deficiency, Labor Unions, and Long-run Stagnation

Using a money-in-the-utility-function model, we present long-run stagnation where insatiable demand for money secularly causes deficient aggregate demand and thereby unemployment in the presence of nominal wage stickiness attributable to union wage setting. In this long-run stagnation, generous unemployment benefits reduce unemployment. Moreover, paradoxically, unemployment declines if labor unions give more weight to nominal wage gains compared with employment increases.

R & D-Based Growth Model with Nominal Wage Stickiness

In this study, we introduce nominal wage stickiness into an endogenous growth model based on R & D. This study examines how money growth affects long-run economic growth. We find that there exists a unique balanced growth path for sufficiently high rates of money growth, and that the economy exhibits sustained growth based on sustained R & D. Faster money growth results in greater employment and faster economic growth along such a balanced growth path. Furthermore, under some parameter restrictions, no balanced growth path exists for low rates of money growth; the economy is trapped in a steady state without long-run growth. These results suggest that money growth may be an important factor for long-run economic growth.

Determinacy Analysis in High Order Dynamic Systems: The Case of Nominal Rigidities and Limited Asset Market Participation

We show how to use Hurwitz polynomials to study the stability and uniqueness of Rational Expectation equilibria in Dynamic General Equilibrium models. We apply this method to a model characterized by staggered wage and price contracts and by limited asset market participation (LAMP). We prove analytically in a fourth-order dynamics system that, once nominal wage stickiness is taken into account, LAMP does not invalidate the Taylor Principle: for any plausible degree of asset market participation an active interest rate rule ensures the uniqueness of the rational expectation equilibrium.

Matching labor’s share in a search and matching model

Labor’s share of income varies over the business cycle, and different theories of nominal rigidities predict different behaviors for labor’s share. Based on evidence from a VAR for the USA, labor’s share falls sharply after a positive productivity shock and does not necessarily “overshoot” its trend; labor’s share rises after a contractionary monetary policy shock; and labor’s share falls gradually after a positive shock to the unemployment rate. A search and matching model with sticky nominal wages but flexible prices can match all three facts. In contrast, a model with flexible nominal wages and flexible prices does not match the first two facts, and a model with flexible nominal wages but sticky prices does not match the second fact. Furthermore, it is difficult to distinguish between a model where the wages of new hires are sticky from one in which they are flexible based purely on macro data.

ITALY'S INDUSTRIAL GREAT DEPRESSION: FASCIST PRICE AND WAGE POLICIES

Industrial production and employment in Italy were hard hit by the Great Depression, and remained below trend until at least 1936. Few quantitative studies have been conducted on the causes of Italy's recession and slow recovery. Using monthly data, and reviving an aggregate supply model published in Bernanke and Carey [Quarterly Journal of Economics111 (1996), 853–883], we empirically test whether Italy's 1930s industrial performance could be related to the Fascist wage and price policies, which, aiming at keeping workers' real wages constant, actually raised firms' labor costs, computed as nominal wages deflated by wholesale prices, hence stalling industrial production. We find evidence of a strong countercyclicality of real wages and of nominal wage stickiness in the period 1929–1936, which would confirm our hypothesis. Trade restrictions are found to play a smaller role in hindering industrial production than previously stated in the literature, whereas we confirm the weak transmission of financial turbulence to the real economy.

Is Volatility Good for Growth? Evidence from the G7

We provide empirical support for an analytical DSGE model with nominal wage stickiness where growth is driven by learning-by-doing and money shocks and their variance are allowed to impact on long-run output growth. In our theoretical model the variance of monetary shocks has a negative effect on growth, while output volatility is good for growth as a positive relationship exists. Using a bivariate GARCH-M model we test the empirical conditional mean and variance relationships of nominal money and production growth rates in the G7 countries. We corroborate the theoretical model predictions with evidence from Bonferroni multiple tests across the G7.