Abstract
This paper analyzes the setting of labor market reforms in the European Monetary Union (EMU), as a political compromise pressured by the lobbying of business interests and trade unions. Using a common agency model of lobbying, we model the impact of distorted and non-distorted Central Bank monetary policy on EMU member state incentives to reform its labor market. Paradoxically, a majority of citizens who do not support the reform can lead to an optimal level of reform. We also show that, in a context of EMU enlargement, inflationary policy generates a status quo if there is a majority of non-supporters. Surprisingly, inflationary policy enhances the reform if the share of non-supporters over supporters increases, and weakens it if this share decreases.
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Notes
They focus on employment protection legislation, union density, coverage and bargaining, the tax wedge on labor, the duration of unemployment benefits, the average replacement ratio and expenditures on active labor market policies, and minimum wage.
The Eurozone currently comprise 17 European Union member states, of which the first 11 introduced the euro 1 January 1999 when it was electronic only. Greece joined 1 January 2001, one year before the physical euro coins and notes replaced the old national currencies in the Eurozone. Subsequently, the following five countries also joined the Eurozone on the 1st of January in the mentioned year: Slovenia (2007), Cyprus (2008), Malta (2008), Slovakia (2009) and Estonia (2011). Latvia plans to adopt the euro on 1 January 2014 if they meet all five convergence criteria by the end of any month during the first half of 2013, and Lithuania announced its goal to do so in 2015. The remaining five states on the agenda (Romania, Bulgaria, Poland, Czech Republic, Hungary) are all expected to qualify for euro adoption in 2016–2020.
To our knowledge, Tagkalakis (2006) is the only attempt to analyze the political economy factors of government’s incentive to reform within a monetary union. He examines the effect of the behavior of a monopolistic labor union on government incentives to undertake labor market reform, inside and outside a monetary union. Incentives for reform increase inside a monetary union when labor market institutions are complements. Inside a monetary union, powerful unions in the wage bargaining process can slow down the deregulation process. However, he does not provide a comprehensive political economy analysis that accounts for the relationship among voters, interest groups and politicians.
Statutory central bank independence may limit the scope for external pressure, but is not sufficient to fully exclude pressure from outside, as e.g. informal links between the government and the central bank might exist. To what extent external pressure is successful can only be determined empirically. See Forder (1996).
The assumption is in line with the results of Di Tella et al. (2001) who showed that an individual’s happiness increases when the unemployment rate decreases.
Without the global-truthfulness assumption, the objective function of the government is G = φ d m d + φ t m t + W. With the help of the global-truthfulness property, the original objective function can be rewritten as Eq. (8).
According to Jurajda and Mathernova (2005) studying waves in labor markets reforms in Slovakia, and especially the “Labor Codes Battles” is very instructive. Indeed, a new labor code that severely reduced labor market flexibility was adopted in July 2001 under the influence of powerful trade unions that were more efficient in influencing the reform process than the pro-reform group composed of employer associations. On the other hand, a new labor legislation was implemented in 2003 under the newly elected government who happened to be insensitive to trade union influence. The authors suggested that trade unions were experiencing capacity constraint and lack of organizational skills.
When deriving the following condition, we use the relationship m t = w r t and m d = π r d. This relationship is implied by the assumption that the contribution schedules are globally-truthful.
Note that this relation fulfills the second-order condition of the government’s optimization.
With \( {G}_{rk}=\frac{\partial {G}_r}{\partial k} \) and \( {G}_{rr}=\frac{\partial {G}_r}{\partial r} \), we have dG r = G rk dk + G rr dr O = 0.
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Acknowledgments
We thank participants of the 75th Conference of the International Atlantic Economic Society Held in Vienna, 3–6 April 2013 for their helpful suggestions and comments on an earlier version of this paper. We also thank an anonymous referee for his valuable comments.
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Jaeck, L., Kim, S. The Impact of EMU Enlargement on Structural Reforms: A Political Economy Approach. Int Adv Econ Res 20, 73–86 (2014). https://doi.org/10.1007/s11294-013-9449-5
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DOI: https://doi.org/10.1007/s11294-013-9449-5