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Inflation and Real Wage Inequality: Empirical Evidence and a Model of Frictional Markets (No.E2012002)

Date:2012-11-08

Stella Huangfu (University of Sydney), Min Zhang (SUFE)
November 8, 2012

Abstract: The US data over the period 1994 - 2008 show that inflation has positive effect on the residual real wage inequality, and this impact primarily operates through stronger negative effect on low wages relative to high wages. To explain this, we introduce uncoordinated job search into the framework by Berensen, Menzio and Wright (2011). In the model, uncoordinated job search by workers gives rise to an equilibrium in which firms are matched with zero, one or multiple job applicants. This generates a wage dispersion among identical workers through the channel of bargaining power. Inflation influences the wage distribution directly through its impact on firms' real profits and indirectly through a spillover effect. Quantitatively, the calibrated model can explain roughly 2/3 of the observed adjustment of wage dispersion in response to changes in inflation.
Keywords: inflation, wage inequality, search, matching

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