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The effects of inflation on wage adjustments in firm-level data: grease or sand?

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Author Info
Erica L. Groshen
Mark E. Schweitzer

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Abstract

This paper studies the effects of inflation on wage changes made by firms in a unique thirty-seven-year panel of occupations and employers drawn from the Federal Reserve Bank of Cleveland Community Salary Survey (CSS). Our analysis first identifies two relative prices embedded in wage changes and, second, draws inferences about the costs and benefits of inflation from the adjustments in these relative prices. Typically, firms manage employer-wide wage adjustments (controlling for occupational wage changes) separately from their interoccupational wage changes (controlling for employer wage hikes). Consistent with this observation, we identify large independent employer and occupational components of wage changes in the CSS. Although there is no a priori reason why these adjustments should be altered by inflation (when the average change is subtracted out), we find that variation in both of these terms rises as inflation grows. Guided by institutional wage-setting procedures, we view employers' mean wage hikes as subject to intra-market variations in the speed of adjustment to inflation and forecasting errors. In contrast, we argue that occupational wage movements include a higher concentration of inter-market relative price adjustments. This simple dichotomy, whose robustness we attempt to test, yields two policy-oriented results. First, higher inflation and labor productivity appear to increase the rate of occupational wage adjustments ("grease"), although these potential benefits taper off after inflation rises to about 4 percent (assuming 1.5 percent average growth of labor productivity.) Second, potentially inefficient variations in employer wage adjustments ("sand") continue to mount until inflation reaches rates of 7 to 10 percent (again assuming productivity growth of 1.5 percent).

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Paper provided by Federal Reserve Bank of New York in its series Staff Reports with number 9.

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Date of creation: 1996
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Handle: RePEc:fip:fednsr:9

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Keywords: Inflation (Finance) ; Labor productivity ; Labor market ; Wages;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Harry J. Holzer & Edward B. Montgomery, 1990. "Asymmetries and Rigidities in Wage Adjustments by Firms," NBER Working Papers 3274, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  2. Allan Drazen & Daniel S. Hamermesh, 1986. "Inflation and Wage Dispersion," NBER Working Papers 1811, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  3. Hartman, Richard, 1991. "Relative Price Variability and Inflation," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 23(2), pages 185-205, May. [Downloadable!] (restricted)
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    Other versions:
  5. Stanley Fischer, 1981. "Relative Shocks, Relative Price Variability, and Inflation," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 12(1981-2), pages 381-442. [Downloadable!]
  6. George A. Akerlof & William R. Dickens & George L. Perry, 1996. "The Macroeconomics of Low Inflation," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 27(1996-1), pages 1-76. [Downloadable!]
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  9. Lach, Saul & Tsiddon, Daniel, 1992. "The Behavior of Prices and Inflation: An Empirical Analysis of Disaggregated Price Data," Journal of Political Economy, University of Chicago Press, vol. 100(2), pages 349-89, April. [Downloadable!] (restricted)
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  13. George J. Stigler & James K. Kindahl, 1970. "The Behavior of Industiral Prices," NBER Books, National Bureau of Economic Research, Inc, number stig70-1, Summer.
  14. Ball, Laurence & Mankiw, N. Gregory, 1994. "A sticky-price manifesto," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 41(1), pages 127-151, December. [Downloadable!] (restricted)
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  15. Reinsdorf, Marshall, 1994. "New Evidence on the Relation between Inflation and Price Dispersion," American Economic Review, American Economic Association, vol. 84(3), pages 720-31, June. [Downloadable!] (restricted)
  16. Sheshinski, Eytan & Weiss, Yoram, 1977. "Inflation and Costs of Price Adjustment," Review of Economic Studies, Blackwell Publishing, vol. 44(2), pages 287-303, June. [Downloadable!] (restricted)
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  18. David E. Lebow & David J. Stockton & William L. Wascher, 1995. "Inflation, nominal wage rigidity, and the efficiency of labor markets," Finance and Economics Discussion Series 95-45, Board of Governors of the Federal Reserve System (U.S.).
  19. Levine, David I, 1993. "Fairness, Markets, and Ability to Pay: Evidence from Compensation Executives," American Economic Review, American Economic Association, vol. 83(5), pages 1241-59, December. [Downloadable!] (restricted)
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  21. Card, David, 1990. "Unexpected Inflation, Real Wages, and Employment Determination in Union Contracts," American Economic Review, American Economic Association, vol. 80(4), pages 669-88, September. [Downloadable!] (restricted)
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  22. Haley, James, 1990. " Theoretical Foundations for Sticky Wages," Journal of Economic Surveys, Blackwell Publishing, vol. 4(2), pages 115-55.
  23. Julie L. Hotchkiss, 1990. "Compensation policy and firm performance: An annotated bibliography of machine-readable data files," Industrial and Labor Relations Review, ILR Review, ILR School, Cornell University, vol. 43(3), pages 274-289, February.
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Frederic S. Mishkin, 1999. "International Experiences with Different Monetary Policy Regimes," NBER Working Papers 6965, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  2. Hamid Mehran & Joseph Tracy, 2001. "The effect of employee stock options on the evolution of compensation in the 1990s," Economic Policy Review, Federal Reserve Bank of New York, issue Dec, pages 17-34. [Downloadable!]
  3. William Poole, 1999. "Is inflation too low?," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 3-10. [Downloadable!]
    Other versions:
  4. Hamid Mehran & Joseph Tracy, 2001. "The Impact of Employee Stock Options on the Evolution of Compensation in the 1990s," NBER Working Papers 8353, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  5. Beth Anne Wilson, 1999. "Wage rigidity: a look inside the firm," Finance and Economics Discussion Series 1999-22, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
  6. Ana Maria Loboguerrero & Ugo Panizza, 2003. "Inflación y flexibilidad del mercado laboral: La rueda que chilla es la que se engrasa," RES Working Papers 4348, Inter-American Development Bank, Research Department. [Downloadable!]
  7. Ana Maria Loboguerrero & Ugo Panizza, 2003. "Inflation and Labor Market Flexibility: The Squeaky Wheel Gets the Grease," RES Working Papers 4347, Inter-American Development Bank, Research Department. [Downloadable!]
    Other versions:
  8. Erica L. Groshen & Mark E. Schweitzer, 1997. "Identifying Inflation's Grease and Sand Effects in the Labor Market," NBER Working Papers 6061, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  9. Andrés Elberg & Vittorio Corbo & José Tessada, 1999. "Monetary Policy in Latin America: Underpinnings and Procedures," Cuadernos de Economía (Latin American Journal of Economics), Instituto de Economía. Pontificia Universidad Católica de Chile., vol. 36(109), pages 897-927. [Downloadable!]
  10. Takatoshi Ito, 2004. "Inflation Targeting and Japan: Why has the Bank of Japan not Adopted Inflation Targeting?," NBER Working Papers 10818, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  11. Pierre Fortin & George A. Akerlof & William T. Dickens & George L. Perry, 2002. "Inflation and Unemployment in the U.S. and Canada: A Common Framework," Cahiers de recherche du Département des sciences économiques, UQAM 20-16, Université du Québec à Montréal, Département des sciences économiques. [Downloadable!]
  12. Vittorio Corbo, 2000. "Monetary Policy in Latin America in the 90s," Working Papers Central Bank of Chile 78, Central Bank of Chile. [Downloadable!]
  13. David Lebow & Raven Saks & Beth Anne Wilson, 2003. "Downward Nominal Wage Rigidity: Evidence from the Employment Cost Index," Advances in Macroeconomics, Berkeley Electronic Press, vol. 3(1), pages 1117-1117. [Downloadable!] (restricted)
  14. Frederic S. Mishkin & Klaus Schmidt-Hebbel, 2001. "One decade of inflation targeting in the world : What do we know and what do we need to know?," Working Papers Central Bank of Chile 101, Central Bank of Chile. [Downloadable!]
    Other versions:
  15. Erik Walch, 2001. "An Assessment Of The National Labour Market," BCL working papers cahier_etude_1, Central Bank of Luxembourg. [Downloadable!]
  16. Bernanke, Ben S & Mishkin, Frederic S, 1997. "Inflation Targeting: A New Framework for Monetary Policy?," Journal of Economic Perspectives, American Economic Association, vol. 11(2), pages 97-116, Spring. [Downloadable!] (restricted)
    Other versions:
  17. David E. Lebow & Raven E. Saks & Beth Anne Wilson, 1999. "Downward nominal wage rigidity: evidence from the employment cost index," Finance and Economics Discussion Series 1999-31, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
  18. Frederic S. Mishkin, 1998. "Strategies for Controlling Inflation," NBER Working Papers 6122, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  19. Erica Groshen & David Levine, 1998. "The rise and decline(?) of U.S. internal labor markets," Research Paper 9819, Federal Reserve Bank of New York. [Downloadable!]
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