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The role of labor markets for euro area monetary policy

Tobias Linzert, Kai Christoffel and Keith Kuester

No 1035, Working Paper Series from European Central Bank

Abstract: In this paper, we explore the role of labour markets for monetary policy in the euro area in a New Keynesian model in which labour markets are characterized by search and matching frictions. We first investigate to which extent a more flexible labour market would alter the business cycle behaviour and the transmission of monetary policy. We find that while a lower degree of wage rigidity makes monetary policy more effective, i.e. a monetary policy shock transmits faster onto inflation, the importance of other labour market rigidities for the transmission of shocks is rather limited. Second, having estimated the model by Bayesian techniques we analyse to which extent labour market shocks, such as disturbances in the vacancy posting process, shocks to the separation rate and variations in bargaining power are important determinants of business cycle fluctuations. Our results point primarily towards disturbances in the bargaining process as a significant contributor to inflation and output fluctuations. In sum, the paper supports current central bank practice which appears to put considerable effort into monitoring euro area wage dynamics and which appears to treat some of the other labour market information as less important for monetary policy. JEL Classification: E32, E52, J64, C11

Keywords: bargaining; bayesian estimation; labor market; wage rigidity (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-eec, nep-mac and nep-mon
Date: 2009-03
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Journal Article: The role of labor markets for euro area monetary policy (2009) Downloads
Working Paper: The role of labor markets for Euro area monetary policy (2009) Downloads
Working Paper: The role of labor markets for euro area monetary policy (2009) Downloads
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