A non-Walrasian labor market in a monetary model of the business cycle

This paper investigates to what extent a new Keynesian, monetary model with the addition of a microfounded, non-Walrasian labor market solely based on union bargaining is able to replicate key aspects of the business cycle. The presence of a representative union offers an explanation for two features of the cycle. First, it generates an endogenous mechanism which produces persistent responses to both supply and demand shocks. Second, labor unionization reduces the elasticity of marginal costs to output. This leads to lower inflation volatility. Model simulations show that the unionized framework can better reproduce European business cycle data than can a model with a competitive labor market.