View article

• The presence of substantial resistance to nominal wage cuts in a low inflation environment can slow the adjustment of relative wages to labor market shocks and thus result in a misallocation of resources (Keynes 1936; Slichter and Luedicke 1957; Tobin 1972; Akerlof, Dickens and Perry 1996). This distortion would not occur in a higher inflation environment.

• Alternatively, to the extent that the downward rigidity prevents real wage cuts, rather than nominal wage cuts, inflation will not improve efficiency. In this case only increases in real wages resulting from productivity growth can reduce the misallocation of resources caused by a real wage floor.