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Inflation and Labor Market Flexibility: The Squeaky Wheel Gets the Grease

  • Ana Maria Loboguerrero
  • Ugo Panizza

Inflation can “grease” the wheels of the labor market by relaxing downward wage rigidity but it can also increase uncertainty and have a negative “sand” effect. This paper studies the grease effect of inflation by looking at whether the interaction between inflation and labor market regulations affects how employment responds to changes in output. The results show that in industrial countries with highly regulated labor markets, the grease effect of inflation dominates the sand effect. In the case of developing countries, we rarely find a significant effect of inflation on labor market regulations and provide evidence indicating that this could be due to the presence of a large informal sector and limited enforcement of de jure labor market regulations.

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Paper provided by Inter-American Development Bank, Research Department in its series Research Department Publications with number 4347.

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Date of creation: Aug 2003
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Handle: RePEc:idb:wpaper:4347
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  1. Erica L. Groshen & Mark E. Schweitzer, 1996. "The effects of inflation on wage adjustments in firm-level data: grease or sand?," Staff Reports 9, Federal Reserve Bank of New York.
  2. Peter R. Fallon & Robert E. B. Lucas, 2002. "The Impact of Financial Crises on Labor Markets, Household Incomes, and Poverty: A Review of Evidence," World Bank Research Observer, World Bank Group, vol. 17(1), pages 21-45.
  3. Arellano, Manuel & Bond, Stephen, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," Review of Economic Studies, Wiley Blackwell, vol. 58(2), pages 277-97, April.
  4. Erica L. Groshen & Mark E. Schweitzer, 1997. "Identifying inflations grease and sand effects in the labor market," Working Paper 9705, Federal Reserve Bank of Cleveland.
  5. Carmen Pagés-Serra & James J. Heckman, 2000. "The Cost of Job Security Regulation: Evidence from Latin American Labor Markets," IDB Publications (Working Papers) 4119, Inter-American Development Bank.
  6. Giuseppe Bertola & Richard Rogerson, 1996. "Institutions and Labor Reallocation," NBER Working Papers 5828, National Bureau of Economic Research, Inc.
  7. David Card & Dean Hyslop, 1996. "Does Inflation "Grease the Wheels of the Labor Market"?," NBER Working Papers 5538, National Bureau of Economic Research, Inc.
  8. Blanchard, Olivier & Wolfers, Justin, 2000. "The Role of Shocks and Institutions in the Rise of European Unemployment: The Aggregate Evidence," Economic Journal, Royal Economic Society, vol. 110(462), pages C1-33, March.
  9. Wyplosz, Charles, 2001. "Do We Know How Low Inflation Should Be?," CEPR Discussion Papers 2722, C.E.P.R. Discussion Papers.
  10. Laurence Ball, 1996. "Disinflation and the NAIRU," NBER Working Papers 5520, National Bureau of Economic Research, Inc.
  11. Stephen Nickell & Luca Nunziata & Wolfgang Ochel & Glenda Quintini, 2001. "The Beveridge curve, unemployment and wages in the OECD from the 1960s to the 1990s - preliminary version," LSE Research Online Documents on Economics 20113, London School of Economics and Political Science, LSE Library.
  12. Tobin, James, 1972. "Inflation and Unemployment," American Economic Review, American Economic Association, vol. 62(1), pages 1-18, March.
  13. Juan Botero & Simeon Djankov & Rafael Porta & Florencio C. Lopez-De-Silanes, 2004. "The Regulation of Labor," The Quarterly Journal of Economics, MIT Press, vol. 119(4), pages 1339-1382, November.
  14. Carmen Pagés-Serra, 2000. "The Cost of Job Security Regulation: Evidence from Latin American Labor Markets," JOURNAL OF LACEA ECONOMIA, LACEA - LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION.
  15. Guillermo Calvo & Frederic S. Mishkin, 2003. "The Mirage of Exchange Rate Regimes for Emerging Market Countries," NBER Working Papers 9808, National Bureau of Economic Research, Inc.
  16. Carmen Pagés & Claudio E. Montenegro, 2007. "Job security and the age-composition of employment: evidence from Chile," Estudios de Economia, University of Chile, Department of Economics, vol. 34(2 Year 20), pages 109-139, December.
  17. Friedman, Milton, 1977. "Nobel Lecture: Inflation and Unemployment," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 451-72, June.
  18. Arellano, Manuel & Bover, Olympia, 1995. "Another look at the instrumental variable estimation of error-components models," Journal of Econometrics, Elsevier, vol. 68(1), pages 29-51, July.
  19. 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(1), pages 1-76.
  20. George A. Akerlof & William T. Dickens & George L. Perry, 2000. "Near-Rational Wage and Price Setting and the Long-Run Phillips Curve," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 31(1), pages 1-60.
  21. Bertola, Giuseppe, 1990. "Job security, employment and wages," European Economic Review, Elsevier, vol. 34(4), pages 851-879, June.
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