Essays on macroeconomic fluctuations and nominal wage rigidity

Abstract: This thesis consists of four essays on labor market and monetary policy.The essay ”The Interaction Between Labor Market Policy and Monetary Policy: An Analysis of Time Inconsistency Problems” studies the interaction between time inconsistency problems in labor market policy and monetary policy. When both policies are discretionary, there is a positive inflation bias, whereas the bias in labor market programs may be either positive or negative. A commitment of labor market programs to zero increases inflation, as compared to the case when both labor market policy and monetary policy are discretionary. Delegation of labor market policy to a liberal labor market board may improve the discretionary outcome, even if labor market programs crowd out regular employment. A conservative central bank always reduces the social loss.The essay ”Nominal Wage Flexibility, Wage Indexation and Monetary Union” argues that membership in a monetary union (EMU) is likely to imply stronger incentives for nominal wage flexibility in the form of wage indexation or shorter contract length than non-membership. For example, EMU entry may cause a move from a non-indexation to an indexation equilibrium. But more wage flexibility is only an imperfect substitute for an independent monetary policy for each country. It is possible that an increase in wage flexibility is welfare-decreasing, because of the accompanying rise in price variability. If indexation occurs outside the EMU, there may be multiple equilibria.The essay ”Bargaining Structure and Nominal Wage Flexibility” shows in a model with heterogenous agents, wage setting by monopoly unions and monetary policy conducted by a central bank, that the duration of nominal wage contracts is u-shaped in the degree of centralization, with intermediate bargaining systems yielding contracts of shorter duration and thus, more flexible nominal wages than both decentralized and centralized systems. The essay also finds the optimal degree of centralization of wage bargaining to be negatively related to the degree of heterogeneity in the economy. The theoretical predictions of the model are tested on OECD data, and there is empirical support for the main results regarding contract length.The essay on ”Unemployment Benefits, Contract Length and Nominal Wage Flexibility” shows in a union-bargaining model that a decrease in the unemployment benefit level does not only increase equilibrium employment, but also nominal wage flexibility, and thus, reduces employment variations in the case of nominal shocks. Long-term wage contracts lead to higher expected real wages and hence, higher expected unemployment than short-term contracts.Therefore, lower benefits reduce the expected utility gross of contract costs of a union member more with long-term than with short-term contracts and thus create an incentive for shorter contracts. Incentives for employers work in the same direction. Lower taxes associated with lower benefits also tend to make short-term contracts more attractive.