Marginal Revolution University
5 minutes
Nominal Wage Stickiness Mechanisms in Labor Markets
The nominal wage stickiness mechanism describes the micro-foundational friction preventing instantaneous adjustment of money wages in response to price level fluctuations within labor markets. This phenomenon is formally defined by contract rigidities, implicit contracts between employers and employees regarding real compensation stability, and menu costs associated with renegotiating employment agreements. As a core component of New Keynesian macroeconomic theory, it serves as the primary transmission channel explaining why aggregate demand shocks result in output volatility rather than immediate price level adjustments.