Trend inflation as a workers' discipline device
The paper shows that a monetary policy regime that allows for a positive inflation rate disciplines monopolistic wages setters if these, when setting contracts, internalise the consequences of their choices for economic outcomes over the life of the contract. We also show that discretionary monetary policy has real effects when wage setters are non atomistic, whereas commitment to a positive inflation rate is effective irrespective of the degree of labour market centralisation. Finally, the model may explain the different unemployment dynamics in Europe and in the USA, following the 1980 disinflationary episode. Our approach suggests that disinflation induced an adverse effect on the labour market wedge and that such effect was stronger in Europe, due to the particular importance of large wage setters.