Price-wage system with taxation: multivariate cointegration analysis

Abstract

The paper investigates the price system and the wage equation in the presence of taxes. Price formation is analysed at three levels: producer’s prices, trade in consumer goods and, separately, in services, and at the aggregate level of the cost of living index. This is in the spirit of classical macromodels that usually apply the “bottom-to-top” approach. However, because of nonstationarity of variables, this study employs multivariate cointegration. The empirical investigation is based on Polish monthly data covering the period from January 1993 to December 2003. Its results allow to conclude that as many as five stable long-run relationships drove inflation in Poland in that period. Appropriate decomposition of price formation made it possible to incorporate all conditions postulated by economic theory (i.e. homogeneity, unit elasticities) and to show how direct and indirect taxes impact decisions made by the employers and employees.