An Empirical Investigation of the Relationship between Unit Labour Cost and Price Developments : The Case of Greece

In recent years, the rate of change in prices for the Greek economy does not seem to react proportionally compared to the large reductions in wage cost implemented in the context of the effort for fiscal consolidation and improvement of competitiveness. The disconnection between prices and wage cost complicates and impedes the effectiveness of the monetary policy transmission channel. The effectiveness of the monetary policy transmission channel is very important, as it accelerates the desired adjustments in terms of competitiveness and purchasing power of the consumer, thus supporting the growth and stability of the economy.This paper examines the relationship between unit labor cost and price developments for the Greek economy as a whole but also for its sub-sectors. Over the period 2000-2013, the econometric investigation provides evidence that prices and unit labor costs are characterized by a long-run equilibrium relationship for the economy as a whole, and there is a two-direction causality, which means that prices affect the development of unit labor cost and vice versa.However, for the period 2010-2013, the empirical findings indicate that in the economy as a whole and especially in the sub-sector of industry, changes in unit labor cost have been largely disconnected from those of prices, as a result, the profit margins are increased. The large reduction in unit labor cost is mainly due to the reduction of nominal wages per employee and not to the increase of labour productivity.From a policy-making perspective, the increase in labour productivity is a critical factor that will improve the competitiveness of the economy. The expected benefits from a further reduction of wages would be doubtful and additionally, the continuation of an internal devaluation policy would lead to a more fragile status of the Greek social cohesion