Macroeconomic implications of cash limits in the public sector

A cash limit is a fixed amount of money available for pay prior to the wage negotiations in the public sector. This paper examines the macroeconomic implications of cash limits in a unionized economy with decentralized wage bargaining in both private and public sectors. I focus in particular on the linkages between changes in the cash limit, wage-setting, and employment in public and private sectors. Equilibrium unemployment is independent of the size of the public sector if there are no sectoral differences in the unions' relative bargaining power. In general, unemployment may rise or fall by public-sector expansion accomplished by means of an increase in the cash limit; unemployment increases if unions are relatively more powerful in the public than in the private sector.