Productivity growth, wage setting and the equilibrium rate of unemployment

This paper argues that one cannot tell a convincing story of the rise in OECD unemployment without mentioning the slowdown in productivity and real wage growth that occurred in the 1970s. It is argued that whereas most authors have regarded any effects of the slowdown on unemployment as temporary while "real wage resistance" is overcome, there is no theoretical reason to believe that this is the case. This point was illustrated using dynamic union bargaining model. This model also suggested that a Phillips Curve was appropriate as an empirical wage equation. For most OECD countries such a wage equation works well, and the slowdown in real wage growth does appear to have been important in explaining the rise in unemployment.