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The causes of business cycles and the cyclicality of real wages

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  • Charles A. Fleischman

Abstract

A model's ability to explain procyclical movements in real wages has become an important benchmark by which macroeconomists judge business cycle theories. Because Keynesian models with sticky nominal wages predict countercyclical real wages, they have been criticized and dismissed in favor of Real Business Cycle models or New Keynesian models based on price stickiness or countercyclical markups. The bulk of the evidence for procyclical real wages, however, comes from studies using panel data that estimate the unconditional, contemporaneous correlation between real wages and the unemployment rate. These studies constrain real wage cyclicality to be the same irrespective of the source of the business cycle fluctuations. This paper relaxes this constraint and estimates a structural VAR identified by long-run restrictions on the responses of hours and output to labor supply, technology, oil price, and aggregate demand shocks. It finds that real wages are procyclical in response to technology shocks and oil price shocks, but are countercyclical in response to labor supply shocks and aggregate demand shocks. The procyclicality of real wages during the periods covered by the panel data sets may be explained by the importance of the productivity slowdown and the 1970s oil price shocks. The results highlight the limitations of using the unconditional, contemporaneous correlation between real wages and business cycle indicators to sort out competing theories of the business cycle, and cast strong doubt on the appropriateness of the rejection of sticky wage models.

Suggested Citation

  • Charles A. Fleischman, 1999. "The causes of business cycles and the cyclicality of real wages," Finance and Economics Discussion Series 1999-53, Board of Governors of the Federal Reserve System (U.S.).
  • Handle: RePEc:fip:fedgfe:1999-53
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    Cited by:

    1. Cervini-Plá, María & Silva, José I. & López-Villavicencio, Antonia, 2012. "Labor disruption costs and real wages cyclicality," MPRA Paper 42366, University Library of Munich, Germany.
    2. Martha Misas A & Enrique López E, 2001. "Desequilibrios Reales En Colombia," ENSAYOS SOBRE POLÍTICA ECONÓMICA, BANCO DE LA REPÚBLICA - ESPE, vol. 19(40), pages 5-45, December.
    3. Messina, Julian & Strozzi, Chiara & Turunen, Jarkko, 2009. "Real wages over the business cycle: OECD evidence from the time and frequency domains," Journal of Economic Dynamics and Control, Elsevier, vol. 33(6), pages 1183-1200, June.
    4. Danthine, Jean-Pierre & Kurmann, André, 2010. "The business cycle implications of reciprocity in labor relations," Journal of Monetary Economics, Elsevier, vol. 57(7), pages 837-850, October.
    5. Ghosal, Vivek & Loungani, Prakash, 1996. "Evidence on Nominal Wage Rigidity from a Panel of U.S. Manufacturing Industries," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 28(4), pages 650-668, November.
    6. Huang, Kevin X. D. & Liu, Zheng, 2002. "Staggered price-setting, staggered wage-setting, and business cycle persistence," Journal of Monetary Economics, Elsevier, vol. 49(2), pages 405-433, March.
    7. Jean-Pierre Danthine & André Kurmann, 2008. "The Macroeconomic Consequences of Reciprocity in Labor Relations," Scandinavian Journal of Economics, Wiley Blackwell, vol. 109(4), pages 857-881, March.
    8. repec:eee:macchp:v2-297 is not listed on IDEAS
    9. Gert Peersman & Roland Straub, 2009. "Technology Shocks And Robust Sign Restrictions In A Euro Area Svar," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 50(3), pages 727-750, August.
    10. Bryan Perry & Kerk Phillips & David E. Spencer, 2015. "Real wages and monetary policy: a DSGE approach," Journal of Economic Studies, Emerald Group Publishing, vol. 42(5), pages 734-752, October.
    11. Dominique Tremblay, 2002. "Salaire réel, chocs technologiques et fluctuations économiques," Staff Working Papers 02-42, Bank of Canada.
    12. Bryan Perry & Kerk L. Phillips & David E. Spencer, 2012. "State-Level Evidence on the Cyclicality of Real Wages," BYU Macroeconomics and Computational Laboratory Working Paper Series 2012-05, Brigham Young University, Department of Economics, BYU Macroeconomics and Computational Laboratory.
    13. Jean-Pierre DANTHINE & André KURMANN, 2004. "Efficiency Wages Revisited: The Internal Reference Perspective (new version)," Cahiers de Recherches Economiques du Département d'Econométrie et d'Economie politique (DEEP) 04.09, Université de Lausanne, Faculté des HEC, DEEP, revised Jun 2005.
    14. Neville Francis & Valerie A. Ramey, 2002. "Is the Technology-Driven Real Business Cycle Hypothesis Dead?," NBER Working Papers 8726, National Bureau of Economic Research, Inc.
    15. Ulrich Woitek, 2004. "Real Wages and Business Cycle Asymmetries," CESifo Working Paper Series 1206, CESifo Group Munich.
    16. G. Peersman & R. Straub, 2006. "Putting the New Keynesian Model to a Test," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 06/375, Ghent University, Faculty of Economics and Business Administration.
    17. Ambler, Steve & Guay, Alain & Phaneuf, Louis, 2012. "Endogenous business cycle propagation and the persistence problem: The role of labor-market frictions," Journal of Economic Dynamics and Control, Elsevier, vol. 36(1), pages 47-62.
    18. Kevin X.D. Huang & Zheng Liu & Louis Phaneuf, 2004. "Why Does the Cyclical Behavior of Real Wages Change Over Time?," American Economic Review, American Economic Association, vol. 94(4), pages 836-856, September.

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    Business cycles ; Wages;

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