Real Wage Flexibility, Economic Fluctuations, and Exchange Rate Regimes

Hyuk Jae Rhee () and Jeongseok Song ()
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Hyuk Jae Rhee: University of Windsor
Jeongseok Song: Chung-Ang University

Open Economies Review, 2017, vol. 28, issue 4, No 2, 633-659

Abstract: Abstract We study the desirability of real wage flexibility and its impact on welfare for each exchange rate regime, using a small open economy model with unemployment fluctuation. The main findings regarding the stabilizing role of real wage flexibilities can be summarized as two-fold. First, the more flexible real wage leads to smaller fluctuation in the output gap, reduces welfare losses regardless of exchange rate regimes. The increase in real wage flexibilities, however, may have destabilizing effects on domestic price and real wage inflation and may have a negative effect on welfare for both exchange rate regimes. Overall, contrary to conventional wisdom, increase in real wage flexibilities may be welfare-reducing. Second, in the presence of real wage rigidities smoothing the exchange rate fluctuations may increase the welfare loss.

Keywords: Real wage rigidity; Exchange rate regime; Unemployment; Small open economy (search for similar items in EconPapers)
JEL-codes: E31 E58 F41 (search for similar items in EconPapers)
Date: 2017
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Citations: View citations in EconPapers (2)

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DOI: 10.1007/s11079-017-9438-z

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