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The labor market effects of trade unions in an open economy: Layard meets Melitz


Trade unions are typically able to convert their industrial power into political power. We show that, depending on the constellation of parameters, stronger trade unions may improve welfare in terms of an increase in aggregate employment and output if they successfully lobby for lower trade barriers set by the government.

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  1. The exist risk is assumed to be constant and exogenous. Pflüger and Russek (2013) analyze a scenario where high-productivity firms face a lower exit risk than low-productivity firms.

  2. The right-to-manage assumption leads to a wage-employment outcome, which lies on the labor demand curve. But points on the labor demand curve are generally inefficient. A switch to efficient contracts would allow for Pareto-improvements. One way to enforce an efficient outcome is a bargain over both wages and employment. However, even in the US, where the firm is the predominant bargaining level, employment is rarely the object of bargaining agreements (see, e.g., OECD 2004). And this does not come as a surprise. Pinning down wages and employment shifts the risk of negative product demand shocks to the firm. Firms will thus demand for an opening clause. Given such a clause each firm has the incentive to claim an unexpected low product demand, since a move to the left from the contract curve to the labor demand curve implies higher profits. In short, a stochastic environment raises problems that may prevent the achievement of efficient contracts. A different way to switch to efficient contracts is a profit sharing agreement. But even these agreements are more the exception than the rule. Jerger and Michaelis (2011) discuss some reasons why profit sharing is so hard to implement.

  3. Because of the assumption of identical workers, all firms pay the same wage. If workers are allowed to differ, for instance with respect to their abilities, firms with different ϕ will pay different wages (see de Pinto and Michaelis 2014).

  4. We thank an anonymous referee for pointing us to this result. In a dynamic modelling framework, the expansion of the export sector would have important consequences for the lobbying process, since there are now more unions that lobby for liberalization. Developing such a dynamic framework, however, is beyond the scope of this paper.


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We thank an anonymous referee for very insightful comments. The paper also benefited from comments by Laszlo Goerke, Xenia Matschke, Carsten Eckel, Gerald Willmann, Benjamin Jung, and from participants at conferences in Göttingen and Trier.

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Correspondence to Jochen Michaelis.

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de Pinto, M., Michaelis, J. The labor market effects of trade unions in an open economy: Layard meets Melitz. Int Econ Econ Policy 13, 223–232 (2016).

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  • Trade unions
  • Lobbying
  • Trade liberalization