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Short-term pain for long-term gain: Market deregulation and monetary policy in small open economies

Matteo Cacciatore (), Romain Duval (), Giuseppe Fiori and Fabio Ghironi ()

Journal of International Money and Finance, 2016, vol. 68, issue C, 358-385

Abstract: This paper explores the effects of labor and product market reforms in a New Keynesian, small open economy model with labor market frictions and endogenous producer entry. We show that it takes time for reforms to pay off, typically at least a couple of years. This is partly because the benefits materialize through firm entry and increased hiring, both of which are gradual processes, while any reform-driven layoffs are immediate. Some reforms – such as reductions in employment protection – increase unemployment temporarily. Implementing a broad package of labor and product market reforms minimizes transition costs. Importantly, reforms do not have noticeable deflationary effects, suggesting that the inability of monetary policy to deliver large interest rate cuts in their aftermath – either because of the zero bound on policy rates or because of the membership in a monetary union – may not be a relevant obstacle to reform. Alternative simple monetary policy rules do not have a large effect on transition costs.

Keywords: Structural reforms; Employment protection; Firm entry; Product market regulation; Unemployment benefits (search for similar items in EconPapers)
JEL-codes: E24 E32 E52 F41 J64 (search for similar items in EconPapers)
Date: 2016
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Working Paper: Short-Term Pain for Long-Term Gain: Market Deregulation and Monetary Policy in Small Open Economies (2015) Downloads
Working Paper: Short-Term Pain for Long-Term Gain: Market Deregulation and Monetary Policy in Small Open Economies (2015) Downloads
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