Wage setting and unemployment

Transcription

1 Wage setting and unemployment Why is there unemployment? Steinar Holden, December 2009 Frictions differences between o workers characteristics and preferences, and o job requirements takes time to find appropriate matches But: differences in unemployment across countries and over time are too large Different focus in most of the literature: o why doesn t the price clear the market? o why doesn t the wage fall? Leads to Equilibrium Unemployment Theory o stock wage and price curves o flows search models 1

2 Real wage Wage curve Price curve (labour demand) U n Equilibrium unemployment U Why doesn t the wage fall? minimum wages too low or non-existent in most countries/for most workers efficiency wages firms profit from high wages o if motivation is important for efficiency o if the wage is important for motivation wage bargaining o workers/unions push wages above competitive wage 2

3 Theoretical framework Imperfectively competitive firms, facing a downward sloping demand curve, Production function firm i (employment N only input) Y i = F(N i ), F > 0, F < 0 Demand (Q i is the producer price, Q the aggregate output price level, E is the elasticity of demand, Y aggregate demand) E Qi Yi = Y, E > 1 Q Profits in firm i (W i is nominal wage, τ is payroll tax rate) π i = Q i F(N i ) W i (1+τ)N i 3

4 Right-to-manage assumption: Firms set prices (and employment) to maximize profits, for given wages Qi E 1 Wi(1 +τ ) = Q E 1 F'(.) Q relative price = markup * marginal cost product market comp. up => E up => markup down Leads to profit maximising labour demand Wi (1 + τ ) Ni = N, Y, E, N1 < 0, N2 > 0 Q and indirect profit function W (1 ) i τ π,,, 0, 0 i = π + Y E N1 < N2 > Q 4

5 From firms price setting, and aggregating over firms (Q i = Q for all i) W(1 + τ ) E 1 = F '( N ) Q E or W (1 + τ ) N = N, E, N1 < 0, N2 > 0 Q One-to-one link: employment and real wage, o no direct effect of aggregate demand, Y, for given real wage. Intuition: o Y up => N up => marg. cost up => Q i up => Q up => W/Q down (employment only increases if W/Q falls) More elastic product demand, E up, (greater product market competition) leads to higher employment for given real wage. 5

6 Union utility Wi ui = u, Ni, u1 > 0, u2 > 0 P P is consumer prices Wages set in firm-specific bargain, Nash bargaining solution Wi(1 + τ ) Wi max π, Y π0 u, Ni u0( U, Z) Wi Q P π 0, u 0 (U, Z) disagreement points, u 01 < 0, u 02 > 0, o U is unemployment and o Z is indicator for wage pressure variables, like unemployment benefits, union strength, industrial conflict legislation, etc. π 0, u 0 : what motivates bargainers to reach agreement, (costly delay or risk of breakdown) o increased capital mobility weakens workers bargaining power 6

7 The solution can be written on the form Wi (1 + τ ) P(1 + τ ) = W, U, Z, E Q Q + + producer real wage = W(wedge, U, wage pressure, prod. market comp) (where the effect of aggregate output Y is subsumed under U, invoking Okun s law) Lower product market competition leads to o Larger rents to capture o Less elastic labour demand 7

8 Empirical evidence for the wage curve: aggregate times series evidence based on micro data The Wage Curve (Blanchflower and Oswald) Evidence for many industrialised countries suggest an empirical law, that the elasticity of real wages wrt unemployment is about -0.1 o If unemployment doubles, real wages fall by 10 percent Empirical support for dynamic fluctuations around a long-run wage curve, rather than a Phillips curve Evidence suggest stronger effect of unemployment in non-union setting o unions able to resist wage reduction when unemployment is high 8

9 W(1+τ)/Q real wage W(P(1+τ)/Q,U,Z,E) wage curve [(E-1)/E] F (1-U) price curve U n Equilibrium unemployment U Equilibrium unemployment U n given by wage and price setting behaviour Increased wage pressure, Z up, =>wage curve shifts up => W/Q up and U n up More elastic product demand, E up => price curve shifts up => W/Q up and U n down 9

10 W(1+τ)/Q W(P(1+τ)/Q,U, Z,E) [(E-1)/E] F (1-U) U n Equilibrium unemployment U No direct effect of aggregate demand Y on U n. o Price level adapts to make aggregate demand equal to aggregate supply, at eq. U. This implies that there is no effect of increased public demand on U n if the price elasticity for public demand is the same as for private o Increase in public demand leads to higher U n if lower price elasticity than for private demand 10

11 real wage wage curve price curve Increasing inflation Decreasing inflation U n U Theory: Wages and prices set in nominal terms, based on expectations U < U n possible if wage and price growth above expected levels Increasing wage and price growth for U < U n o In reality wage growth may increase even if U > U n, e.g. due to high profits Increase in aggregate demand leads to U > U n (just like in traditional Keynesian models), and the model tells what happens to wage and price growth 11

12 Effect of productivity growth W(1+τ)/Q real wage wage curve price curve U n U Higher productivity shifts price curve up Higher expected productivity growth leads to higher wage demands which shifts wage curve up Equilibrium unemployment increases if expected productivity growth > productivity growth 12

13 W(1+τ)/Q real wage Effect of immigration for domestic workers wage curve price curve (labour demand) U n U Wage curve down due to o more competition for jobs o less mismatch in labour market Price curve (labour demand) down due to o Can use immigrants instead Effect on equilibrium unemployment ambiguous Dolado et al (2007): Reduction in Spanish unemployment due to immigration lowering U n 13

14 Open economy: increased aggregate demand leads to lower equilibrium unemployment & higher cost level W(1+τ)/Q real wage wage curve price curve U n U In open economy: Y up => Q up => P/Q down => wage curve down => U n down Domestic prices increase relative to foreign prices and equilibrium unemployment falls Aggregate demand & fiscal policy affect eq. U 14

15 The long run The price curve becomes flatter, in the limit horizontal, fixing the producer real wage, due to requirement of o expected rate of return to capital o balanced foreign trade W(1+τ)/Q Wages Prices U n Equilibrium unemployment U 15

16 Individually, workers and unions may still gain from increased bargaining power Collectively (nationally) higher wage pressure gives only rise to higher unemployment, with no long run impact on real wages o negative external effects in wage setting on consumer and input prices, on unemployment public budget, and from envy/status Yields strong incentives to incomes policy and coordinated wage restraint 16

17 Wage setting at national or regional level conducive to wage moderation, industry or occupation level lead to increased wage pressure firm level depends on product market competition wage dispersion reduced within wage setting area A digression on efficiency: When wages are set by bargaining or efficiency wage considerations, one should not expect relative wages to be socially efficient Wages higher in firms/industries with high productivity or large rents (weak competition or natural resources) leads to lower employment in these firms may exacerbate distortions due to weak competition But local wage setting may improve work incentives 17

18 Late 1960s and 1970s: increased wage pressure leads to higher equilibrium unemployment Wage setting gradually more moderate since early 1980s Why did high unemployment persist? 18

19 Sources of persistence Equilibrium unemployment may increase when unemployment is high Low output and lower profitability lead to lower investment and lower capital stock o Labour demand shifts Long term unemployment o Loss of skills o Loss of motivation o Sorting Insider wage setting o Wage setters neglect the unemployed o More likely under decentralised wage setting (national unions cannot neglect the unemployed) 19

20 European unemployment the aggregate evidence Large variation over time and across countries Econometric evidence based on panel data Interaction of stable institutions and shocks/baseline variables which shift over time o Layard et al (1991) (increased wage pressure, the replacement ratio, real import price, etc) o Ball (NBER, 1996) (monetary policy, institutions and hysteresis) o Blanchard and Wolfers (EJ, 2000) (TFP growth, the real interest rate, labour demand shifts, etc) Changing institutions o Belot and van Ours (JJIE, 2001) (interaction between institutions) o Nickell, Nunziata and Ochel (EJ, 2005) Studies agree that institutions are important, but vary on additional variables and interactions 20

21 Nickell, Nunziata and Ochel (EJ, 2005) 20 OECD countries, Higher unemployment in country-years with o strict EPL (not significant) o high benefit replacement ratio o long benefit duration o interaction of benefit duration with repl. ratio o increased union density o low coordination in wage setting o low interaction of coordination and union density o high total employment tax rate o low interaction of coordination and empl. tax rate o high owner occupied housing (not significant) o labour demand shock o TFP shock o money supply shock (not significant) o real interest rate (not significant) 21

22 Based on dynamic simulations, Nickell et al find that changing institutions can explain 55% of the 6.8 percentage point increase in European unemployment from 1960s to o changing benefits can explain 39%, o increased labour taxes 26%, o shift in union variables 19%, and o movements in EPL 16% Nickell et al argue that model with institutions and shocks make no real contribution to understanding the change in unemployment as compared to the model with changing institutions. Bassinini and Duval (OECD, 2006): Find results along lines of Nickell et al, data : o changes in institutions explain almost two-thirds of non-cyclical unemployment changes o replacement rate, tax wedge, product market regulation lead to higher eq. unemployment o corporatism and ALMP lead to lower eq U. 22

23 Critique of the institutional explanation Baker, Glyn, Howell and Schmidt (2004), Freeman (2007) Evidence based on institutional variables fragile due to uncertain classification of institutional variables economic Darwinism, where measures are constructed ex-post of researchers who were not unaware of unemployment developments coefficient estimates unstable, often insignificant or with wrong sign no apparent bilateral relationships (consistent with evidence in OECD, 2004) o bilateral relationships in one decade often disappear or are reversed in the next Sparrman (2009) Nickell et al explanation behaves poorly post-sample 23

24 Summing up my reading of the evidence Some institutions are undoubtly of importance High unemployment benefits reduce job finding rate for unemployed o may increase labour force participation, o may lead to better jobs o effective control of job search Strict EPL reduces job flows o Unclear effect on aggregate U o Effect on subgroups o Bad combinations exist Must be possible to lay off employees if there is no profitable jobs Large tax wedge for low income workers a problem Some labour market measures work, others don t o suitable education, training & job-search good Wage moderation is important, but measures of coordination/centralisation are difficult 24

25 Equilibrium unemployment: depend on institutions and mismatch sets lower bound to actual unemployment rate but actual unemployment also affected by shocks, and effects may persist monetary policy key equilibriating mechanism o other equilibrating mechanisms are weak 25

26 Recent macro-unemployment research Reduction in unemployment during the mid 2000s led to less interest in OECD unemployment More reseach on calibrated search models o Ljungqvist and Sargent, others Some research on endogenous institutions 26

27 Algan and Cahuc AEJ-Macro, 1/2009 Better to protect workers than jobs o Inspired by Danish flexicurity idea: generous unemployment benefits reduce political need for strict EPL In countries with weak civic attitudes, workers will cheat making it less costly to insure workers by strict EPL, in spite of adverse efficiency effects 27

28 Relationship seems robust 28

29 Blanchard and Phillipon (2006): Institutions are endogenous, it is the quality of the labor relations that is the true underlying force o labor/employer relations are generally cooperative Relationship holds when quality is instrumented by o strike activity in the 1960s o attitude towards early unions in 19 th century 29

30 hostile in France, Italy, Spain, Portugal neutral in Denmark, Norway, Sweden, Finland, the UK, Ireland supportive in Germany, Switzerland, the Netherlands, Austria 30