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Real Wages and Aggregate Demand Shocks: Contradictory Evidence from Vars

  • Lastrapes, W.D.

This paper revisits two recently published estimates (in Gamber and Joutz 1993, and Spencer 1998) of the dynamic effects of aggregate demand shocks on real wages. Despite identical data and similar reliance on long-run restrictions to identify the economic structure of a VAR model of real wages, productive activity and unemployment, the studies' findings are contradictory. I conclude that the sensitivity of these estimates is due to differences in the treatment of a potential deterministic trend in the unemployment rate. To enhance robustness of the estimated responses, I incorporate other variables into the VAR (money, interest rates and prices) and employ long-run monetary neutrality as the primary identifying restriction. I find that real wages respond positively to money supply, or aggregate demand, shocks, implying that nominal output prices are more rigid than wages in the face of such shocks. Furthermore, there is no evidence of absolute nominal wage rigidity in response to money supply shocks. The approach of this paper and its findings improve our confidence in the use of VARs with long-run restrictions.

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Paper provided by Georgia - College of Business Administration, Department of Economics in its series Papers with number 99-476.

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Length: 16 pages
Date of creation: 2000
Date of revision:
Handle: RePEc:fth:georec:99-476
Contact details of provider: Postal: U.S.A.; The University of Georgia, College of Business Administration, Department of Economics, Athens, GA 30602
Web page: http://www.terry.uga.edu/

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  1. Gamber, Edward N & Joutz, Frederick L, 1993. "The Dynamic Effects of Aggregate Demand and Supply Disturbances: Comment," American Economic Review, American Economic Association, vol. 83(5), pages 1387-93, December.
  2. Christiano, Lawrence J. & Eichenbaum, Martin & Evans, Charles L., 1999. "Monetary policy shocks: What have we learned and to what end?," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 2, pages 65-148 Elsevier.
  3. Valerie A. Ramey & Matthew D. Shapiro, 1999. "Costly Capital Reallocation and the Effects of Government Spending," NBER Working Papers 6283, National Bureau of Economic Research, Inc.
  4. Rudebusch, G.D., 1996. "Do Measures of Monetary Policy in a VAR Make Sense?," Papers 269, Banca Italia - Servizio di Studi.
  5. Cooley, Thomas F. & Dwyer, Mark, 1998. "Business cycle analysis without much theory A look at structural VARs," Journal of Econometrics, Elsevier, vol. 83(1-2), pages 57-88.
  6. Katharine G. Abraham & John C. Haltiwanger, 1995. "Real Wages and the Business Cycle," Journal of Economic Literature, American Economic Association, vol. 33(3), pages 1215-1264, September.
  7. Jon Faust & Eric M. Leeper, 1994. "When do long-run identifying restrictions give reliable results?," Working Paper 94-2, Federal Reserve Bank of Atlanta.
  8. Lastrapes, W. D., 1998. "International evidence on equity prices, interest rates and money," Journal of International Money and Finance, Elsevier, vol. 17(3), pages 377-406, June.
  9. Canova, Fabio, 1993. "Detrending and Business Cycle Facts," CEPR Discussion Papers 782, C.E.P.R. Discussion Papers.
  10. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 1996. "Sticky price and limited participation models of money: a comparison," Working Paper Series, Macroeconomic Issues WP-96-28, Federal Reserve Bank of Chicago.
  11. Bils, Mark J, 1985. "Real Wages over the Business Cycle: Evidence from Panel Data," Journal of Political Economy, University of Chicago Press, vol. 93(4), pages 666-89, August.
  12. Julio J. Rotemberg, 1999. "A Heuristic Method for Extracting Smooth Trends from Economic Time Series," NBER Working Papers 7439, National Bureau of Economic Research, Inc.
  13. Matthew Shapiro & Mark Watson, 1988. "Sources of Business Cycles Fluctuations," NBER Chapters, in: NBER Macroeconomics Annual 1988, Volume 3, pages 111-156 National Bureau of Economic Research, Inc.
  14. Faust, Jon, 1998. "The robustness of identified VAR conclusions about money," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 49(1), pages 207-244, December.
  15. Geweke, John, 1988. "Antithetic acceleration of Monte Carlo integration in Bayesian inference," Journal of Econometrics, Elsevier, vol. 38(1-2), pages 73-89.
  16. Olivier Jean Blanchard & Danny Quah, 1988. "The Dynamic Effects of Aggregate Demand and Supply Disturbance," Working papers 497, Massachusetts Institute of Technology (MIT), Department of Economics.
  17. Rudebusch, Glenn D, 1998. "Do Measures of Monetary Policy in a VAR Make Sense? A Reply," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(4), pages 943-48, November.
  18. Canova, Fabio, 1998. "Detrending and business cycle facts: A user's guide," Journal of Monetary Economics, Elsevier, vol. 41(3), pages 533-540, May.
  19. Jon Faust, 1998. "The robustness of identified VAR conclusions about money," International Finance Discussion Papers 610, Board of Governors of the Federal Reserve System (U.S.).
  20. Spencer, David E, 1998. "The Relative Stickiness of Wages and Prices," Economic Inquiry, Western Economic Association International, vol. 36(1), pages 120-37, January.
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