Wage Flexibility and the Great Recession: The Response of the Irish Labour Market

Despite the importance of wage rigidity in macroeconomic models, no consensus has emerged in the empirical literature on the extent of wage rigidity. Previous attempts to measure wage rigidity have been hampered by small samples and measurement error. Moreover, results relating to earlier periods may not be relevant in the context of the large macroeconomic shocks that have hit many countries in recent years. In this paper we examine nominal wage flexibility in Ireland both in the build up to, and during the Great Recession, using tax return data that are free of reporting error and cover the entire population of workers. The Irish case is particularly interesting because it has been one of the countries most affected by the crisis. We find a substantial degree of downward wage flexibility in Ireland in the pre-crisis period. Furthermore, we observe a significant change in wage dynamics since the crisis began; the proportion of workers receiving wage cuts more than trebled, rising from 17% in 2006 to 56% at the height of the crisis. Given the large number of workers receiving pay cuts it seems unlikely that wage rigidity played an important role in unemployment dynamics in Ireland over this period