ABSTRACT
This chapter continues the analysis of the macroeconomy, with a special emphasis on the role played by the labor market. First, random shocks will be introduced that have the capability of moving the economy away from long-run equilibrium as defined in Ch. 4. This feature will allow us to differentiate between predictable events that can be incorporated into expected inflation and unpredictable shocks that create a discrepancy between predicted and actual inflation. Second, the effects of the shocks on the real wage, employment, and unemployment will be investigated. Third, in the aftermath of the shocks, the real wage must adjust to re-establish equilibrium in the labor market, but the welfare repercussions of this process indicate a conflict between “secure” and “marginal” workers. The resolution of this conflict is not easily predicted and wage determination may have “democratic” forces as much as competitive forces.
