Flexible Wages or Flexible Workers?

This paper investigates how firms adjust wages and employment in periods of adverse economic circumstances, using extensive, administrative linked employer/employee panel data for the Netherlands. Changes in the contractual wage bills of firms are decomposed into wages and job flows, distinguishing stayers and workers entering and exiting the firm.

Employment reduction is found to be the major channel for wage-bill contraction by firms, indicating downward wage rigidity. A negative relationship is established between firms' degree of downward wage rigidity and their employment growth, suggesting that job losses in response to adverse shocks would be signicantly lower if wages were more downwardly flexible.