A "Simple" Currency Union Model with Labor Market Frictions, Real Wage Rigidities and Equilibrium Unemployment

Mirko Abbritti

No 09-2007, IHEID Working Papers from Economics Section, The Graduate Institute of International Studies

Abstract: This paper derives a DSGE currency union model with labor market frictions, real wage rigidities and price staggering. The model combines many realistic features, but it is still tractable: like standard open-economy models, it can be closed in six equations. We derive and discuss the constrained efficient allocation and the decentralised equilibrium, under both flexible and sticky prices. We use the model to analyse how different labor market institutions or degrees of real wage rigidities influence the functioning of the currency union and the size and persistence of inflation and output differentials. We show that the presence of non trivial real imperfections affects substantially the transmission mechanism of shocks in general and, in particular, of monetary policy. Interestingly, we find that the implications of real wage rigidities and labor market frictions for business cycle fluctuations are likely to operate in opposite directions: a high degree of real wage rigidities tends to amplify the response of the real economy to shocks; when labor market are more sclerotic, instead, unemployment volatility tends to decrease while inflation volatility increases.

Keywords: Currency Union; labor market frictions; real wage rigidities; unemployment; sticky prices; inflation and output differentials (search for similar items in EconPapers)
JEL-codes: E32 E52 F41 (search for similar items in EconPapers)
Pages: 47
Date: 2007-01
New Economics Papers: this item is included in nep-cba, nep-dge, nep-lab, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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