Wren-Lewis, S. (2014) “Eurozone Asymmetries“, Mainly Macro Blog, 05 Οκτωβρίου.
Suppose a large Eurozone country – let’s call it France – decided that it needs to substantially increase its minimum wage in order to reduce poverty. The increase is sufficiently large that it leads to a sustained increase in average French wage inflation, which in turn decreases the competitiveness of France relative to the rest of the Eurozone. France cannot be permanently uncompetitive, so the obvious consequence would be that France has to endure a subsequent period in which its relative inflation was below the Eurozone average.
However this would require a period where French unemployment was above its natural rate. French politicians declare that this would be politically unacceptable to French voters. Instead they suggest French inflation should remain at 2%, and the remainder of the Eurozone should increase their inflation rate to 4% for a time (giving an average Eurozone inflation rate of over 3%) to ensure France regains competitiveness. Now this would not normally be possible, because the ECB’s inflation target is 2%. However the influence of France on the ECB is such that the ECB fails to raise interest rates in time to prevent 3% average inflation, and subsequently keeps interest rates low because they repeatedly forecast inflation falling back down to 2% in due course.
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