Rescuing the Phillips curve

Abstract

Despite the increased importance of cyclically-adjusted measures of labour market slack for policymaking, estimates of the NAIRU have become increasingly fragile. Particularly for euro area countries, NAIRU estimates represent a crucial input to compute cyclically-adjusted budget balances adopted to formulate medium-term fiscal objectives under the EU fiscal surveillance framework. However, the apparent reduced sensitivity of inflation to labour market dynamics and unemployment gaps seriously undermines the use of Phillips curve equations in estimating the NAIRU. Estimates of the NAIRU are particularly problematic when changes in unemployment are both very large and rapid as in the aftermath of the global crisis. This paper proposes a refinement to the standard OECD approach of using a Kalman filter to estimate the NAIRU in the context of the Phillips curve. The proposed refinement strengthens the relationship between inflation and labour market developments by considering the risk of hysteresis effects associated with changes in long-term unemployment. Testing the revised methodology on a broad selection of OECD countries gives mixed results. For a group of countries in the euro area periphery (Greece, Ireland, Italy, Portugal and Spain) there is an increase in the magnitude and statistical significance of the unemployment gap, with the NAIRU revised upward by on average 1¾ percentage points. However, the revised methodology provides less improvement to the standard OECD methodology for a second set of countries considered, namely the G7 excluding Italy. The United States is an interesting intermediate case as the statistical evidence for the proposed methodology is marginal, but the policy implications of the revised point estimate of the NAIRU are major.

Analysis of Substitution Changes in the Phillips Curve in V4 Countries Over the Course of Economic Cycles

“…In Hungary, the slope of -0,01 indicates the lowest substitutability of the household deflator of unemployment by gender, age and education at the scale set by us. According to Rusticelli (2014), the reason for the flattening of the PC is the reduction of the inflation adjustment of economic dynamics due to the influence of the rising level and the increasing length of unemployment on the growth of nominal wage rigidity. In the case for men in the Czech Republic, the value was -0.35, in Slovakia -0.20, in Poland -0.17 and in Hungary -0.01.…”

“…It also points to differences in growth rates or the decline in inflation across economic cycles. Rusticelli (2014) analyzes the OECD and European Union (EU) data by the end of 2012. According to the author, the reason for PC flatulence is to reduce the inflationary adjustment of economic dynamics due to the impact of rising rates and prolonged unemployment on the growth of nominal wage rigidity.…”

“…The theoretical research and empirical research in the Phillips curve (PC) since its publication in 1958 (Phillips, 1958) has been variously intense in individual periods. After a certain decline in interest in this issue, interest has been restored in recent decades and many interesting studies have emerged among many such as Reitz and Slopek (2013), Rusticelli (2014), Watson (2014) and Marjanovic, Maksimovic, Stanisic (2015) and Kloudova (2016). These authors show the makers of economic policy space for PC use in real-life decision making.…”

How the Czech Government Got the Pandemic Wrong

“…The long history of the relationship between inflation and unemployment confirms its applicability to the analysis of economic problems, despite strong criticism of this approach, especially in the last third of the 20th century. The applicability of the Phillips curve (PC) and NAIRU concepts is also supported by authors dealing with the effects of the global recession until 2015 (Gordon, 2013;Coibion and Gorodnichenko, 2015;Rusticelli, 2014;Andrle, Brůha and Solmaz, 2013;Baxa, Plašil and Vašíček, 2013). Further research from 2016 to 2020, examining the aftermath of a global recession, also confirms the functionality of both concepts (Blanchard, 2016;McLeay and Tenreyro, 2019;Zandweghe, 2019, Stock andWatson, 2017;D.…”

The decoupling between labour compensation and productivity in high‐income countries: Why is the nexus broken?

“…According to Shaikh (2016), unemployment has a more intense depressing effect on real wages when its duration increases; whereas other contributions posit that long‐term unemployment exerts nil or very limited downward pressure on money wages (e.g. Layard et al., 1991; Rusticelli, 2015).…”