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Understanding the dynamics of labor shares and inflation

  • Lawless, Martina
  • Whelan, Karl

Calvo-style models of nominal rigidities currently provide the dominant paradigm for understanding the linkages between wage and price dynamics. Recent empirical implementations stress the idea that these models link inflation to the behavior of the labor share of income. Gali, Gertler, and Lopez-Salido (2001) argue that the model explains the combination of declining inflation and labor shares in euro area. In this paper, we show that with realistic parameters, the canonical Calvo-style model cannot explain this outcome. In addition, we show that the model fails very badly in sectoral data. We examine the elements underlying the decline in the labor share in Europe, and conclude that the key factors are related to technological and labor market developments not accounted for in the standard New-Keynesian framework. JEL Classification: E31

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Paper provided by European Central Bank in its series Working Paper Series with number 0784.

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Date of creation: Jul 2007
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Handle: RePEc:ecb:ecbwps:20070784
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  1. Jordi Galí & Mark Gertler & J. David López-Salido, 2000. "European Inflation Dynamics," Banco de Espa�a Working Papers 0020, Banco de Espa�a.
  2. Argia M. Sbordone, 2001. "Prices and Unit Labor Costs: A New Test of Price Stickiness," Departmental Working Papers 200112, Rutgers University, Department of Economics.
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  12. Jordi Gali & Mark Gertler, 2000. "Inflation Dynamics: A Structural Econometric Analysis," NBER Working Papers 7551, National Bureau of Economic Research, Inc.
  13. Julio J. Rotemberg & Michael Woodford, 1999. "The Cyclical Behavior of Prices and Costs," NBER Working Papers 6909, National Bureau of Economic Research, Inc.
  14. Douglas Gollin, 2002. "Getting Income Shares Right," Journal of Political Economy, University of Chicago Press, vol. 110(2), pages 458-474, April.
  15. McAdam, Peter & Willman, Alpo, 2004. "Production, supply and factor shares: an application to estimating German long-run supply," Economic Modelling, Elsevier, vol. 21(2), pages 191-215, March.
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  17. Nicoletta Batini & Brian Jackson & Stephen Nickell, 2000. "Inflation Dynamics and the Labour Share in the UK," Discussion Papers 02, Monetary Policy Committee Unit, Bank of England.
  18. Álvarez, L. & Dias, D. & Dhyne, E. & Hoffmann, J. & Jonker, N. & Le Bihan, H. & Lünnemann, P. & Rumler, F. & Veronese, G. & Vilmunen, J., 2005. "Price Setting in the Euro Area: Some Stylized Facts from Individual Consumer Price Data," Working papers 136, Banque de France.
  19. Nicola GIAMMARIOLI & Julian MESSINA & Thomas STEINBERGER & Chiara STROZZI, 2002. "European Labor Share Dynamics: An Institutional Perspective," Economics Working Papers ECO2002/13, European University Institute.
  20. repec:ucn:oapubs:10197/237 is not listed on IDEAS
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