Introduction:
When William Phillips first published his paper in 1958 on the relationship between inflation and unemployment, called the Phillips Curve, it became a base model for Central Banks globally to help set their monetary policies(Blanchard, 2010). However, in recent years, this inverse correlation between unemployment and inflation has seemed to vanish. As inflation expectations have anchored and unemployment has lowered, the Phillips Curve has flattened(Phillips Curve May Be Broken, 2017). The flattening of the Phillips Curve has since become the subject of lots interest by economists and central banks leading to theorization as to whether or not, central banks should continue to use this model as a basis for monetary policy or if …show more content…
When the model holds\, the lower the unemployment rate, the higher the inflation rate and vice versa. Through his research, Guillermo Calvo determined the slope of the short run Phillips Curve is based off the stickiness of wages and prices. This led to the second version of the Phillips Curve(very similar to the old one), and one that is still commonly used today, called the New Keynesian Phillips Curve (Calvo Contracts, 2017). Depending on how sticky wages and prices are, the steeper(less sticky) or flatter(stickier) the curve will be (Calvo Contracts, 2017). Movement along a steeper Phillips Curve will result in much greater changes in prices than movement along a flat curve. Focusing on the “πe” variable of the model, inflation is very directly affected by inflation expectations(πe) of wage and price setters. These two agents utilize rational and adaptive expectations to set their inflation expectations helping them determine whether or not to change their wages or prices(Blanchard, …show more content…
In some cases, such as for Australia’s Central Bank, economist Andrew Haldane, and the Philadelphia Federal Reserve, people are ready to let the Phillips Curve model go due to its relationship no longer being able to exist in a world changed by globalization (Kiefer, 2016). However, those who aren’t ready to let the relationship go, still believe the relationship will reestablish itself once wage setters cease anchoring their inflation expectations or when unemployment hits a low enough point, they’ll start increasing wages once again (Harford, 2017). These believers may indeed be right too, with the recent news of England’s inflation hitting a five year high and the belief that adaptive expectations will lead to Trump’s recent tax cuts having the same effect on inflation as under Johnson’s tax cuts in the 1960’s (Inflation has not yet followed, 2017). Either way, only time will tell if the Phillips Curve is a model of the past or if its inverse correlation can continue in the
When William Phillips first published his paper in 1958 on the relationship between inflation and unemployment, called the Phillips Curve, it became a base model for Central Banks globally to help set their monetary policies(Blanchard, 2010). However, in recent years, this inverse correlation between unemployment and inflation has seemed to vanish. As inflation expectations have anchored and unemployment has lowered, the Phillips Curve has flattened(Phillips Curve May Be Broken, 2017). The flattening of the Phillips Curve has since become the subject of lots interest by economists and central banks leading to theorization as to whether or not, central banks should continue to use this model as a basis for monetary policy or if …show more content…
When the model holds\, the lower the unemployment rate, the higher the inflation rate and vice versa. Through his research, Guillermo Calvo determined the slope of the short run Phillips Curve is based off the stickiness of wages and prices. This led to the second version of the Phillips Curve(very similar to the old one), and one that is still commonly used today, called the New Keynesian Phillips Curve (Calvo Contracts, 2017). Depending on how sticky wages and prices are, the steeper(less sticky) or flatter(stickier) the curve will be (Calvo Contracts, 2017). Movement along a steeper Phillips Curve will result in much greater changes in prices than movement along a flat curve. Focusing on the “πe” variable of the model, inflation is very directly affected by inflation expectations(πe) of wage and price setters. These two agents utilize rational and adaptive expectations to set their inflation expectations helping them determine whether or not to change their wages or prices(Blanchard, …show more content…
In some cases, such as for Australia’s Central Bank, economist Andrew Haldane, and the Philadelphia Federal Reserve, people are ready to let the Phillips Curve model go due to its relationship no longer being able to exist in a world changed by globalization (Kiefer, 2016). However, those who aren’t ready to let the relationship go, still believe the relationship will reestablish itself once wage setters cease anchoring their inflation expectations or when unemployment hits a low enough point, they’ll start increasing wages once again (Harford, 2017). These believers may indeed be right too, with the recent news of England’s inflation hitting a five year high and the belief that adaptive expectations will lead to Trump’s recent tax cuts having the same effect on inflation as under Johnson’s tax cuts in the 1960’s (Inflation has not yet followed, 2017). Either way, only time will tell if the Phillips Curve is a model of the past or if its inverse correlation can continue in the