Optimal Wage Indexation in a Multisector Economy

John Duca and David VanHoose

International Economic Review, 1991, vol. 32, issue 4, 859-67

Abstract: Optimal wage indexation is analyzed in an economy subject to common and sector-specific supply shocks and aggregate demand shocks where one sector has wage contracts and the other has a Walrasian labor market. It is shown that it is optimal in this setting to index wages partially to unanticipated economywide inflation and to industry-specific profits. Consequently, this study provides possible theoretical explanations for observation of both CPI indexation and profit-sharing contracts, and for the failure of purely aggregative indexation models to explain disaggregate-level behavior. Copyright 1991 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

Date: 1991
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