Union Power, Collective Bargaining, and Optimal Monetary Policy

By Faia, Ester; Rossi, Lorenza | Economic Inquiry, January 2013 | Go to article overview

Union Power, Collective Bargaining, and Optimal Monetary Policy


Faia, Ester, Rossi, Lorenza, Economic Inquiry


I. INTRODUCTION

In most euro area countries labor unions and collective bargaining (1) play an important role in determining labor market dynamics. It is often argued that centralized union bargaining amplifies inefficient unemployment dynamics, since bargained wages are distorted by the presence of union rents and firms choose labor demand ex post, therefore exposing employment to shock fluctuations. (2) The presence of inefficient unemployment dynamics calls for active monetary policies. In this paper, we take a public finance approach to analyze the design of optimal monetary policy: in presence of union rents, inflation can indeed be used as a means of indirect redistribution between current employed union members and unemployed workers with the goal of bringing unemployment closer to the constrained pareto efficient level.

Our benchmark model includes price rigidities and unionized labor markets. The assumption of price rigidity allows us to account for a direct link between unemployment and inflation. Workers' unionization implies that the labor market is non-Walrasian and that wages are set as a mark-up over their reservation value. The presence of a wage mark-up produces a wedge in the labor market equilibrium conditions, which induces inefficient unemployment fluctuations. Unions set wages by maximizing a weighted average of the workers' aggregate surplus from the job and aggregate employment. (3) Workers' surplus from the job is given by the difference between the aggregate wage and the reservation wage, which represents unions' threat point, namely the wage process below which workers would not enter negotiations. Based on a worker participation constraint the reservation wage is set equal to workers' outside option, given by a weighted average of the unemployment benefit and the wage prevailing on a nonunionized labor market. As the unemployment benefit is determined based on past wages, in equilibrium unionized wages are also characterized by history dependence. This assumption allows to introduce real-wage rigidity into the model in a tractable way and consistently with evidence in Blanchard and Katz (1999) and Ball and Moffitt (2001). (4) Negotiations take the form of a right to manage bargaining: after wages are set collectively, individual firms determine employment along the labor demand schedule. (5) In this context, the labor market equilibrium is obtained as solution to a Stackelberg game between the union and the firm; this implies that neither of the two internalize the effects of wage settings on employment dynamics. Indeed, since firms take wages as given, they react to shocks by adjusting the employment margin ex post. Under such a mechanism employment becomes the main shock absorber, therefore deviating from the Pareto efficient reference.

The design of optimal policy is done in two steps. First, the optimal path of variables is characterized by following a Ramsey approach. (6) This approach allows us to study optimal policy in economies that evolve around a distorted steady state and by relying on public finance principles. Specifically, the Ramsey planner maximizes household welfare subject to the constraints describing the equilibrium in the private sector economy, and via an explicit consideration of all the distortions that characterize both the long-run and the cyclical behavior of the economy. A novel aspect, related to the use of a public finance approach, stems from the fact that, to the extent that deviations from the flexible price allocation occur, positive volatility of inflation can be interpreted as a tax on labor union rents. State contingent movements in inflation become welfare improving as they acquire a redistributive role between employed union members and unemployed workers. Second, an optimal rule is obtained by maximizing agents' conditional welfare. Crucial in our analysis and in the evaluation of welfare is the use of second-order approximation of the full competitive equilibrium relations and of the agents' utility. …

The rest of this article is only available to active members of Questia

Sign up now for a free, 1-day trial and receive full access to:

  • Questia's entire collection
  • Automatic bibliography creation
  • More helpful research tools like notes, citations, and highlights
  • Ad-free environment

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Default project is now your active project.
Project items

Items saved from this article

This article has been saved
Highlights (0)
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

Citations (0)
Some of your citations are legacy items.

Any citation created before July 30, 2012 will labeled as a “Cited page.” New citations will be saved as cited passages, pages or articles.

We also added the ability to view new citations from your projects or the book or article where you created them.

Notes (0)
Bookmarks (0)

You have no saved items from this article

Project items include:
  • Saved book/article
  • Highlights
  • Quotes/citations
  • Notes
  • Bookmarks
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited article

Union Power, Collective Bargaining, and Optimal Monetary Policy
Settings

Settings

Typeface
Text size Smaller Larger Reset View mode
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Full screen

matching results for page

Cited passage

Style
Citations are available only to our active members.
Sign up now to cite pages or passages in MLA, APA and Chicago citation styles.

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

"Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited passage

Welcome to the new Questia Reader

The Questia Reader has been updated to provide you with an even better online reading experience.  It is now 100% Responsive, which means you can read our books and articles on any sized device you wish.  All of your favorite tools like notes, highlights, and citations are still here, but the way you select text has been updated to be easier to use, especially on touchscreen devices.  Here's how:

1. Click or tap the first word you want to select.
2. Click or tap the last word you want to select.

OK, got it!

Thanks for trying Questia!

Please continue trying out our research tools, but please note, full functionality is available only to our active members.

Your work will be lost once you leave this Web page.

For full access in an ad-free environment, sign up now for a FREE, 1-day trial.

Already a member? Log in now.