Wage Setting and Labour Market Adjustment in Europe, Japan and the USA

In this paper we present an investigation of unemployment persistence in Japan, the United States and fourteen European economies. We concentrate on the sources of slow adjustment in the labour market, such as sluggishness in labour demand and persistence in the employment and wage targets of wage-setters. Two structural characteristics seem to account for most of the recent differential unemployment persistence in our sample of countries: first, sluggishness in labour demand, and second, the relative weighting in the preferences of wage-setters of real wage deviations from target as against employment deviations from target. We also examine the short-run and medium-run effects on unemployment of shocks and policies that shift the labour demand and wage-setting curves respectively. Finally, we examine the implications of our findings for current policy debates.