Publication of « Working Paper N°1 » of the Banque centrale du Luxembourg

An assessment of the national labour market - On employment, unemployment and their link to the price level in Luxembourg

The present paper “An assessment of the national labour market - On employment, unemployment and their link to the price level in Luxembourg�? by Erik Walch proposes to describe and analyse the Luxembourg labour market from a central bank's point of view.

Different parts of this paper address different audiences: in order to expose to the general and non-expert public why central banks are interested in labour markets.

The first section begins with the basic link between monetary policy and labour markets. The discussion reviews the arguments indicating that in the long run a loose attitude towards inflation does not lead to lower unemployment. In addition, the discussion sketches out to what extent the labour market provides useful information for the conduct of an appropriate monetary policy.

In the second part, the paper focuses on the particularities of the Luxembourg labour market and its impact on the price level. The standard Phillips curve relationship is altered by a number of circumstances: monetary policy is fixed for the euro area as a whole, while the evolution of the labour market is a special concern for local policy makers. The very large share of non-residents in domestic employment is the central aspect of Luxembourg’s labour market. In addition, the smallness of the economy is associated with a very high degree of openness in terms of exports and imports. These characteristics affect the determination of equilibrium unemployment and the price level. Since residents' low participation rates are often criticised, the size of the potential reserve this represents for the labour market is estimated. This potential reserve is very limited compared with the current speed of job creation, so it remains crucial for the national labour market to remain attractive to cross-border commuters and immigrants. The wage bargaining process and non-wage labour costs also play an important role in the national labour market performance. Finally, aspects of resident unemployment are discussed in the light of job search theory.

Comments are welcome. The views expressed are those of the author and do not necessarily correspond to those of the Banque centrale du Luxembourg.

The “Working Paper N°1�? may be obtained at the Banque centrale du Luxembourg free of charge. The electronic version may be downloaded on www.bcl.lu in the coming days.

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