Grease and sand: How wages change

One of my first posts on this blog was about the International Wage Flexibility Project. The project uses microdata to study how the complex institutions involved in wage setting affect wage changes, and in particular the three market imperfections that cause the rate of inflation to affect labour market efficiency. These are downward nominal wage rigidity ('grease' effects), downward real wage rigidity, and so-called 'sand' effects of higher inflation creating greater uncertainty about the future path of wages and prices (which can lead to errors and adjustment lags in wage setting). Of these, only downward nominal wage rigidity has been extensively studied before.

The project now encompasses 31 different panel data sets from sixteen European countries and the United States - a considerable achievement. I understand a book is in the works, but in the meantime two papers have recently become available. The first is a National Bank of Belgium working paper, by William T. Dickens, et al: How wages change: micro evidence from the International Wage Flexibility Project

We find a remarkable amount of variation in wage changes across workers. Wage changes have a notably non-normal distribution; they are tightly clustered around the median and also have many extreme values. Furthermore, nearly all countries show asymmetry in their wage distributions below the median. Indeed, we find evidence of both downward nominal and real wage rigidities. We also find that the extent of both these rigidities varies substantially across countries. Our results suggest that variations in the extent of union presence in wage bargaining play a role in explaining differing degrees of rigidities among countries.

The second, longer piece is an article submitted to the Journal of Economic Perspectives, again by William T. Dickens, et al: The Interaction of Labor Markets and Inflation: Analysis of Micro Data from the International Wage Flexibility Project (PDF). The paper finds large differences across countries in the extent of nominal and real wage rigidities:

We find considerable variation in wage changes among workers in the same country and year. The variation increases with inflation, as we would expect if either downward nominal rigidity or sand effects were important.

Applying a new estimator for the prevalence of these three effects, we also find evidence of both types of rigidity in nearly every country. Estimates of the fraction of workers potentially affected by downward nominal wage rigidity range from 9% to 66%, while the comparable range for real rigidity is 3% to 52%. Furthermore, there is some evidence that countries with higher nominal rigidity tend to show less real rigidity.

The authors also find that increasing union density is associated with increasing real wage rigidity:

...Our examination of the causes of downward nominal and real wage rigidity suggests an important role for the extent of unionization and collective bargaining coverage. Both show a consistently positive relationship with the extent of downward real wage rigidity and a negative association with downward nominal wage rigidity. This finding suggests that collective bargaining focuses workers’ attention on real wages and gives them some ability to resist real wage cuts.

...These differences in rigidity across countries may translate into differences in unemployment. Measures of the “wage impact” of downward nominal and real wage rigidity (that is, the extent to which workers’ wages are affected in a particular year) are positively related to unemployment with statistically significant coefficients of about the size predicted by theory.

Impressive work. The job of coordinating thirteen country teams plus a central analysis team, devising a common protocol, and analysing the results jointly cannot have been easy.

Comments

[Donald A. Coffin]

The link to the paper seems to be broken.

[New Economist]

Thanks - link to the second paper is now fixed

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