Axel Gottfries, Edinburgh University

"Infrequent Wage Adjustments and Unemployment Dynamics"


We study the allocative effects of infrequent wage adjustment in long-term employment relationships subject to idiosyncratic and aggregate shocks. We devise a novel theory of wage dynamics that follow a drunken walk, whereby wages adjust minimally such that neither firm nor worker can credibly threaten to initiate a renegotiation of the wage. The theory is amenable to analytical solution for the endogenous wage adjustment bounds, and is easily embedded into canonical models of aggregate labor market equilibrium, allowing a study of its allocative implications for unemployment dynamics. Extensions to accommodate an inflationary environment and on-the-job search further allow an interpretation of recent evidence on nominal wage adjustment, and the role of base vs. non-base pay in wage flexibility.

Contact person: Birthe Larsen