Strategic monetary policy in a monetary union with non-atomistic wage setters



Once again the adverse output and competition effect play a fundamental function
in settling the impact of the CWS on macroeconomic outcomes as summarized in the
following proposition:

Proposition 7 (i) For a given level of CBC, an increase (decrease) in CWS, smaller
(larger)
n∣∣, reduces (raises) inflation and raises (reduces) employment under a MU and
a NMP regime if
σ < ɪɪ^ and σ < ^8^+//^^1-a), respectively; (ii) for a value of β = β
such that the CB is neither conservative or populist, the elasticity of labor demand is
always larger in a MU than under a NMP regime.

Proof. In the Appendix. ■

Intuitively, a non-atomistic labor union sets a higher nominal wage for her members
as long as this does not reduce their employment, i.e. if her real aggregate wage does not
exceed the real aggregate wage38. Thus, the smaller is the number of unions, the more
each union internalizes the inflationary repercussions of their wage claims
(internalization
effect). On one side, the wage setter expects a higher inflation rate in the wake of an
increase in nominal wage and, hence, less consequences on the aggregate real wage and
the aggregate labor demand. This entails wage aggressiveness. On the other side, a higher
level of centralization lets union anticipate that her own wage demand finishes in a higher
aggregate nominal wage which, ceteris paribus, raises the real wage. This second effect
discourages wage aggressiveness and is overwhelming if the conditions in Proposition 7
hold, i.e. when monopoly distortions are high enough so as to lead a large union to perceive
an increase in her own nominal wage as a raise in her real relative wage (Cavallari, 2004).

Now we assess graphically the three conceivable combinations of the adverse output
and competition effect at Home. Since inflation and employment are monotonic functions
of labor demand elasticity,
ηr, we focus on the linkage between this key variable and
CWS. In order to control for the CBC, we assume that the CB is neither conservative nor
populist39.

When the adverse output effect is larger than the adverse competition one, monopoly
distortions are relatively high and a more CWS lets unions internalize the unemployment
consequences of their wage demand through the CB reaction function (see equation (41))40.
Under such circumstances, labor demand elasticity is decreasing in the number of unions
and converging to
σ in presence of atomistic wage setters (as illustrated in Figure 4).

By contrast, if the adverse competition effect is larger than the adverse output one, a
more decentralized wage setting renders unions relatively less aware of their inflationary

38When employment is below the Pareto-efficient level, the welfare gain of a reduction in employment is
lower than the welfare loss of a reduced consumption.

39v ,,,,,,     ,     ,∙       ,∙                     ,               , ,        . -        k(k+βpej,)

Note that the value of CBC for which ∣∣-∣∣∣∣ and μu are equal to zero is β = ~ej))eF (k+p'FeF) under
a NMP regime and ∣3 =
-N-—ʌ in a MU.
°            '"     α(1-α)

40Multinational firms, for instance, may indirectly promote international wage coordination menacing
to move the production where labor costs are lower (Calmfors, 2001).

22



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