The roots of the italian stagnation

Competitiveness measures the cost of foreign goods in accordance with that of domestic goods. Different measures of competitiveness (or its reciprocal, the true effective exchange rates, see Chinn 2006 for more) depend on consumer prices or on unit labour costs, and use weights produced from trade shares to compute a ‘foreign goods’ basket. The machine labour costs measure is specially interesting because it isn’t suffering from firms’ pricing policies which might vary as time passes and markets.

The machine labour costs-based indexes for Italy (green line) and Germany (blue) are shown in Figure 1. Between your first quarter of 2001 and the last of 2011, unit labour cost in Italy rose by 23 percentage points a lot more than in its trading partners (a genuine appreciation), while unit labour costs in Germany declined by 9.7 percentage points (a genuine depreciation). What explains the huge rise in the Italian relative unit labour costs?

Figure 1 . Unit labour cost-based real effective exchange rates

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