A Monopoly Union Model of Wage Determination with Taxes and Endogenous Capital Stock: An Empirical Application to the Finnish Manufacturing Industry

The paper formulates a model of wage determination in which the firm decides on employment after a monopoly union has determined wages. The novelty is to incorporate investment and capital decisions by firms. The subgame-perfect Nash equilibrium and its comparative statics for wages, capital stock and employment are characterized in various cases. The model is then estimated by using annual data from the Finnish manufacturing industry over the period 1960-87. The dynamic system of equations describing the determination of capital stock, wages and hours of work performs reasonably well; there are no obvious signs of misspecifications, coefficient estimates and other properties of the models are correct from the point of view of our theoretical reasoning. Diagnostics and various non-nested test procedures indicate that the conditional hours of work specification - where hours of work are determined recursively after the wage-capital stock game - outperforms alternative specifications implied by the conventional theory of the demand for factors of production.