European Economic and Monetary Union’s perverse effects on sectoral wage inflation: Negative feedback effects from institutional change?

Abstract:
Public sector unions push for unmerited wage increases, exacerbating inflation and deficits. Despite this conventional wisdom, governments in several European countries successfully limited public sector wage growth during the 1980s and 1990s.

This article argues that the recent rise in public sector wage inflation in the eurozone is an unintended consequence of the shift towards Economic and Monetary Union. I argue that monetary union’s predecessors, the European Monetary System and Maastricht, imposed an institutional constraint on governments, which enhanced their ability to impose moderation: national-level, inflation-averse central banks that could punish rent-seeking sectoral wage-setters via monetary contraction. Monetary union’s alteration of this constraint weakened governments’ capabilities to deny inflationary settlements.

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