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Labour market dynamics in the euro area: A model-based sensitivity analysis

Author

Listed:
  • Alistair Dieppe

    () (European Central Bank)

  • Jerome Henry

    () (European Central Bank)

  • Peter Mc Adam

    () (European Central Bank)

Abstract

The lack of euro area labour market flexibility is a commonly mentioned issue. In particular, the relatively weak response of wages to high unemployment can pose adjustment problems. We address the issue using extensive simulations of an estimated macro-econometric model for the euro area (the Area Wide Model). The model is characterised by a well-pinned down, unique equilibrium unemployment rate but with relatively slow convergence dynamics. The interaction between unemployment dynamics and the policy conducted is investigated under a number of alternative assumptions on the labour market, using both deterministic and stochastic simulations. Resulting impulse-responses are analysed, as well as the distribution of unemployment (stacked across a large number of simulations), with a particular focus on situations where large deviations from the deterministic steady state occur. The analysis is done, first, with the standard version of the model, to provide a benchmark consistent with its estimated parameters. A similar exercise is then conducted allowing for a stronger wage response to unemployment and for a higher employment elasticity to real wages. In turn, a specifically adverse configuration is analysed, where, due to imposed asymmetries in the Phillips curve, high unemployment results in lower wage responses than those estimated. Such a feature could put the economy in a situation where unemployment remains well beyond its long-run equilibrium value for a protracted period. We then assess the performance of alternative specifications of the Taylor rule under the various labour market structures, with especially, different degrees of aggressiveness and forward-lookingness of monetary policy. One main result is that the differences across labour market configurations are significantly less marked once a forecast-based rule is employed.

Suggested Citation

  • Alistair Dieppe & Jerome Henry & Peter Mc Adam, "undated". "Labour market dynamics in the euro area: A model-based sensitivity analysis," Modeling, Computing, and Mastering Complexity 2003 09, Society for Computational Economics.
  • Handle: RePEc:sce:cplx03:09
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    References listed on IDEAS

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    More about this item

    Keywords

    Unemployment; Monetary Policy; Euro Area; Non Linearity;

    JEL classification:

    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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