Is hypoinflation good policy?

One argument against a policy to achieve absolute price stability is that w orkers resist pay cuts. We examine several Canadian microdata sources and c orroborate earlier evidence of pay-cut resistance, particularly recently as inflation has approached zero. We then use data on industrial sectors to e stimate that pay-cut resistance reduced employment growth by from 0.6 to 1. 5 percent per annum from 1993 to 1995. We also estimate a model of wage set tlements, treating pay freezes and pay cuts as censored data, which implies that pay-cut resistance may have increased the annual unemployment rate by as much as 2 percent during the same period. In view of these results, the case for very low inflation targets should be reexamined.