Working Paper: CEPR ID: DP2423
Authors: Gilles Saint-Paul; Samuel Bentolila
Abstract: In this paper we study the relationship between labour market institutions and monetary policy. We use a simple macroeconomic framework to show how optimal monetary policy rules depend on labour institutions (labour adjustment costs, and nominal and real wage rigidity) and social preferences regarding inflation, employment, and real wages. We also calibrate our model to compute how the change in social welfare brought about by giving up monetary policy as a result of joining the Economic and Monetary Union (EMU) depends on institutions and preferences. We then use the calibrated model to analyse how EMU affects the incentives for labour market reform, both for reforms that increase the economy's adjustment potential and for those that affect the long-run unemployment rate.
Keywords: EMU; Monetary Union; Labour Market Institutions; Monetary Policy; Labour Market Reform; Eurosclerosis; Political Economy; Unemployment
JEL Codes: E31; E32; E42; E52; E58; J30; J50; J60
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| EMU alters the incentives for labor market reform (E69) | labor market reform incentives (J48) |
| EMU makes significant reforms more challenging (F36) | labor market reform (J48) |
| EMU may facilitate smaller reforms (E69) | labor market reform (J48) |
| Removal of national monetary policy as an instrument (E49) | transition to a new natural rate of unemployment (J69) |
| Transition path to a new equilibrium is essential for governments (P21) | short-term outcomes (I14) |
| Labor market rigidities have varying impacts on costs associated with EMU membership (F66) | costs associated with EMU membership (F36) |
| Some labor market rigidities stabilize employment while destabilizing prices (J48) | employment and prices (J20) |
| EMU membership reduces inflationary bias of governments (F36) | labor market reforms (J48) |
| Interaction between labor market institutions and EMU (J08) | labor market rigidity (J48) |