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Do labor market distortions cause overvaluation and rigidity of the real exchange rate?

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  • Lopez, Ramon
  • Riveros, Luis

Abstract

The main objective of this paper was to measure the importance of labor market distortions in explaining the marked tendency to real exchange rate overvaluation and the relatively low effectiveness of devaluation in Latin America. The main finding is that distortions in the formal labor market are a major factor explaining wage rigidity and the diminished responsiveness of the real exchange rate to devaluation. The implication is that greater liberalization of the labor market can substantially improve the efficacy of exchange rate policies in preventing overvaluation of the real exchange rate. Another important finding is that changes in the minimum wage have substantially broader effects on the wage structure of the economy than previously thought. This, in turn, implies that continuous increases in the minimum wage are an important factor underlying the observed tendencies to overvaluation of the exchange rate in Latin America.

Suggested Citation

  • Lopez, Ramon & Riveros, Luis, 1990. "Do labor market distortions cause overvaluation and rigidity of the real exchange rate?," Policy Research Working Paper Series 485, The World Bank.
    • Handle: RePEc:wbk:wbrwps:485
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    References listed on IDEAS

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    1. Riveros, Luis A., 1989. "International differences in wage and nonwage labor costs," Policy Research Working Paper Series 188, The World Bank.
    2. Corbo, Vittorio & de Melo, Jaime, 1987. "Lessons from the Southern Cone Policy Reforms," The World Bank Research Observer, World Bank, vol. 2(2), pages 111-142, July.
    3. Michael L. Mussa, 1986. "The Effects of Commercial, Fiscal, Monetary, and Exchange Rate Policies on the Real Exchange Rate," NBER Chapters, in: Economic Adjustment and Exchange Rates in Developing Countries, pages 43-88, National Bureau of Economic Research, Inc.
    4. Calvo, Guillermo A, 1978. "Urban Employment and Wage Determination in LDC's: Trade Unions in the Harris-Todaro Model," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 19(1), pages 65-81, February.
    5. Sebastian Edwards & Liaquat Ahamed, 1986. "Economic Adjustment and Exchange Rates in Developing Countries," NBER Books, National Bureau of Economic Research, Inc, number edwa86-1, January.
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    Cited by:

    1. Rama,Martin G., 1998. "Wage misalignment in CFA countries: are labor market policies to blame?," Policy Research Working Paper Series 1873, The World Bank.
    2. Lopez, Ramon, 1995. "Synergy and investment efficiency effects of trade and labor market distortions," European Economic Review, Elsevier, vol. 39(7), pages 1321-1344, August.
    3. Lopez, Ramon, 1991. "Microeconomic distortions : static losses and their effect on the efficiency of investment," Policy Research Working Paper Series 665, The World Bank.

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