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Labor Turnover Costs, Workers' Heterogeneity, and Optimal Monetary Policy

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Author Info

  • Faia, Ester

    ()
    (Goethe University Frankfurt)

  • Lechthaler, Wolfgang

    ()
    (Kiel Institute for the World Economy)

  • Merkl, Christian

    ()
    (University of Erlangen-Nuremberg)

Abstract

We study the design of optimal monetary policy in a New Keynesian model with labor turnover costs in which wages are set according to a right to manage bargaining where the firms' counterpart is given by currently employed workers. Our model captures well the salient features of European labor market, as it leads to sclerotic dynamics of worker flows. The coexistence of those types of labor market frictions alongside with sticky prices gives rise to a non-trivial trade-off for the monetary authority. In this framework, firms and current employees extract rents and the policy maker finds it optimal to use state contingent inflation taxes/subsidies to smooth those rents. Hence, in the optimal Ramsey plan, inflation deviates from zero and the optimal volatility of inflation is an increasing function of firing costs. The optimal rule should react to employment alongside inflation.

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Bibliographic Info

Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 4322.

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Length: 39 pages
Date of creation: Jul 2009
Date of revision:
Handle: RePEc:iza:izadps:dp4322

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Keywords: labor market frictions; hiring and firing costs; optimal monetary policy; policy trade-off;

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Citations

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Cited by:
  1. Totzek, Alexander, 2009. "Firms' heterogeneity, endogenous entry, and exit decisions," Economics Working Papers 2009,11, Christian-Albrechts-University of Kiel, Department of Economics.
  2. Christian Merkl & Sanjay K. Chugh, 2011. "Efficiency and Labor Market Dynamics in a Model of Labor Selection," 2011 Meeting Papers 824, Society for Economic Dynamics.
  3. Kienzler, Daniel, 2012. "Long-term Unemployment over the Business Cycle, Skill Loss, and Monetary Policy," Working Papers on Finance 1205, University of St. Gallen, School of Finance.
  4. Merkl, Christian & Faia, Ester & Lechthaler, Wolfgang, 2010. "Fiscal Multipliers and the Labour Market in the Open Economy," Open Access Publications from Kiel Institute for the World Economy 37509, Kiel Institute for the World Economy (IfW).
  5. Sanjay Chugh & Christian Merkl, 2011. "Efficiency in a Model of Labor Selection," Kiel Working Papers 1684, Kiel Institute for the World Economy.
  6. Christian Merkl, 2009. "The Inflation-Output Tradeoff: Which Type of Labor Market Rigidity Is to Be Blamed?," Kiel Working Papers 1495, Kiel Institute for the World Economy.
  7. Brown, Alessio J. G. & Merkl, Christian & Lechthaler, Wolfgang, 2009. "Firing costs and the business cycle: Policy implications in light of the financial crisis," Open Access Publications from Kiel Institute for the World Economy 32947, Kiel Institute for the World Economy (IfW).

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