RDP 9509: Australian Wage and Price Inflation: 1971–1994 4. Conclusions

This paper set out to estimate a price and wage system for Australia. The results suggest the Australian economy can be characterised as one where firms are trying to achieve their desired long run markup or income share while labour are primarily concerned with maintaining their real wage.

In estimating the system we addressed the problems of the substantial and persistent changes in income shares and the changing means in the inflation series. The first problem was overcome by starting the estimation period before the wage shocks in the early 1970s. With such a long run of data, it was necessary to construct a measure of labour market pressures that did not exhibit structural shifts during the sample. To achieve this the inside unemployment series was extended prior to its inception by producing a predicted value of inside unemployment based on the unemployment gap ratio. The second problem was addressed by imposing a restriction on the wage equation. This allowed steady state inflation in the estimated model to change over the sample. However, because a similar restriction did not hold in the price equation, we find inflation and the markup are negatively correlated in the steady state.