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Bank of Finland Research Discussion Papers, Bank of Finland

No 5/2001:
Equilibrium unemployment with credit and labour market imperfections

Erkki Koskela and Rune Stenbacka

Abstract: We study the role of labour and credit market imperfections in the determination of equilibrium unemployment. In the credit market, loan contracts are negotiated between financiers and firms, both of which have bargaining power, while firms and organized labour bargain over the base wage. The sequential labour and credit market negotiations are assumed to take place conditional on the firm having committed to the use performance-related profit sharing in addition to the negotiated base wage. It is shown that, in the presence of profit sharing, intensified credit market competition will raise equilibrium unemployment, because it induces wage-enhancing effects that cause an increase in the outside option available to union members. Equilibrium unemployment, which is also an increasing function of firmsí bankruptcy risks, is however independent of the extent of credit market imperfection, provided that the compensation system is unrelated to firmsí profits or that there is a monopoly union in the labour market.

Keywords: wage and loan bargaining; compensation systems; equilibrium unemployment; (follow links to similar papers)

JEL-Codes: G32; J41; J51; (follow links to similar papers)

38 pages, March 16, 2001

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