To converge or not converge: unit labor cost inflation in the Euro area

In this article, convergence of unit labor cost (ULC) inflation within the Euro area is tested by means of panel unit root tests. To account for the small cross-sectional dimension, cross-sectional dependence of model innovations and time varying volatility, wild bootstrap critical values are employed for inference. Convergence is tested separately for pre- and post-Euro introduction subperiods. Moreover, we identify particular economies that are characterized by diverging ULC inflation after the introduction of the Euro. While the German economy is characterized by ULC inflation which is persistently below the sample average, Spain and Italy have suffered sustained losses of price competitiveness against their trading partners within the Euro area. ULC inflation in Finland, France, and Ireland can be classified as neutral with respect to relative competitive positions.