Economic Research Southern Africa Working Papers

This paper investigates the implications of the weak response of wages to market conditions in South Africa on the conduct of monetary policy. We use a DSGE model with unemployment following Blanchard and Gali (2010) to assess how different types of labour markets impacts monetary policy responses to shocks. The findings mainly suggest that stabilizing inflation may lead to high and persistent fluctuations in unemployment. Furthermore, the sacrifice ratio appears to be the highest when the labour market is characterized by high flows and a high level of steady state unemployment. The estimation results using South African data reveals a picture of a labour market with pervasive wage rigidities and large flows in the labour market, with high levels of job creation and job destruction rates. It is important to highlight that in the South African case, job destruction rates dominate the dynamics.