Causes of failure of the Phillips curve: Does tranquillity of economic environment matter?

Abstract

Although empirical literature regarding the Phillips curve is sizeable enough, there is still no wide consensus on its validity and stability. The literature shows that the Phillips relationship is fragile and varies across countries and time periods; a statistical relationship that appears strong during one decade (country) may be weak the next (other). This variability might have some grounds for idiosyncrasy of a country and its economic environment. To address it, this paper scrutinizes the Phillips relationship over 41 countries over the period 1980-2016, paying attention to how inflation dynamics behave during tranquil and recessionary periods. As a result, the paper confirms the variability of the Phillips relationship across countries, as well as time periods. It documents that the relationship holds in the majority of developed countries, while it fails to hold in emerging and frontier economies during tranquil periods. On the other hand, the relationship totally collapses during recessionary periods, even in developed markets. This shows that tranquillity of economic environment is significantly important for the Phillip trade-off to work smoothly. Moreover, both backward-and forward-looking fractions of inflation remarkably increase during recessionary periods as a result of the Phillips coefficient loses its significance within the model. This indicates that markets become more inflation-sensitive during these periods.

Phillips Eğrisi’nin Sakin ve Durgunluk Dönemlerde Tahmini: Panel Analizinden Kanıtlar

“…Based on the results of this research, we find that the dynamics of both backward-looking and forward-looking specifications of the Phillips Curve change during recessionary periods and the empirical relationship is no longer valid. This result is in line with the findings of Mazumder (2018), Ball and Mazumder (2019) and Sovbetov and Kaplan (2019b).…”

“…He states that the relationship is often evasive or absent in less-developed economies. Similar conclusions were made by Sovbetov and Kaplan (2019b) who have studied the Phillips curve in 41 different countries during tranquil and recessionary periods. They note that the Phillips curve might not work as notionally in lessdeveloped or crisis-prone countries due to a lack of well-established and freely operating structure of macroeconomic foundations and motivations.…”

Can the Phillips curve be applied in selected European countries today?

“…Once the unemployment rate exceeds 6.54%, there is no correlation between inflation and unemployment rate. Sovbetov & Kaplan (2019) researched the existence of the Phillips curve in 41 countries for period 1980-2016, and they have confirmed that relationship between these two variables differs over time: the Phillips curve is more present in developed countries than in emerging countries; but the Phillips curve relationship is not applicable during periods of recession, even for developed countries.…”

“…Even though it has been researched many times, the Phillips curve is not applicable to all countries and all time periods. Statistical relationship that appears strong during one decade or country, may be weak during the next one or in another country (Sovbetov & Kaplan, 2019). Bulligan & Viviano (2017) presented correlation between unemployment rate and annual nominal wage growth in the euro area in the period Q1 1999-Q4 2015.…”

Corruption impact on East European emerging markets development

“…Knežević and Dobromirov (2016) show that different factors specific to a particular market have a significantly greater impact on the economy than macroeconomic indicators. Sovbetov and Kaplan (2019) show that tranquility of economic environment is significantly important for the development. A good way to look at the development and democracy of a society is to observe the orderliness of the financial market.…”