Introduction to the New Keynesian Phillips Curve

By Hornstein, Andreas | Economic Quarterly - Federal Reserve Bank of Richmond, Fall 2008 | Go to article overview

Introduction to the New Keynesian Phillips Curve


Hornstein, Andreas, Economic Quarterly - Federal Reserve Bank of Richmond


(ProQuest: ... denotes formulae omitted.)

In most industrialized economies inflation tends to be pro-cyclical; that is, inflation is high during times of high economic activity. When economic activity is measured by the unemployment rate this statistical relationship is known as the Phillips curve. The Phillips curve is sometimes viewed as a menu for monetary policymakers, that is, they can choose between high inflation and low unemployment or low inflation and high unemployment. But this interpretation of the Phillips curve assumes that the relationship between unemployment and inflation is structural and will not break down once a policymaker attempts to exploit the perceived tradeoff. After the high inflation episodes experienced by many economies in the 1970s, this structural interpretation of the Phillips curve was discredited. Yet, after a period of low inflation in the 1980s and early 1990s, economists have again worked on a structural interpretation of the Phillips curve. This New Keynesian Phillips curve (NKPC) assumes the presence of nominal price rigidities. In this special issue of the Economic Quarterly, we publish four surveys on the history of the Phillips curve, the structural estimation of the New Keynesian Phillips curve, and the policy implications of the nominal rigidities underlying the New Keynesian Phillips curve.

The Phillips Curve and U.S. Economic Policy

Robert King surveys the evolution of the Phillips curve itself and its usage in U.S. economic policymaking from the 1960s to the mid-1990s. He first describes how, in the 1960s, the Phillips curve became an integral part of U.S. macroeconomic policy in its pursuit of low unemployment rates. A stylized version of the Phillips curve that emerges from this period relates current inflation, π, to the current unemployment rate, u, and lagged inflation,

...

Similar to other elements of the then-standard Keynesian IS-LM macromodel, economists would tell stories that motivated the Phillips curve but the Phillips curve was not derived from an explicit theory. Furthermore, the estimated parameters were taken as structural, in particular as invariant to policy interventions. In the late 1960s, Phelps (1968) and Friedman (1968) interpreted the Phillips curve as arising from search and information frictions in labor markets, and they argued that the relation between a real variable such as unemployment and nominal inflation was based on misperceptions about in- flation on the part of the public. Phelps proposed an expectations-augmented Phillips curve,

πt - ρπ^sup e^^sub t^ = -βu^sub t^,

where πe denotes expected inflation. If, as Phelps and Friedman argued, ρ = 1, then a tradeoff between inflation and unemployment exists only to the extent that actual inflation deviates from expected inflation. At the time, in- flation expectations were modeled as adaptive, that is, a geometric distributed lag of past actual inflation. In this case, for a constant actual inflation rate the expected inflation rate would eventually converge to the actual inflation rate and the unemployment rate would settle down at its natural rate. Thus, there is no long-run tradeoff between inflation and unemployment. Although Phelps and Friedman's argument originally represented a minority view in the profession, the argument became more widely accepted in the 1970s after periods of high inflation and unemployment.

Accounting for the instability of the Phillips curve in the 1970s had lasting effects on the way macroeconomic analysis was done and continues to be done today. First, since expectations play a crucial role in the expectations-augmented Phillips curve, it seemed necessary not to resort to some arbitrary assumption on the expectations mechanism. For this purpose, macroeconomists started to assume that expectations are rational. By this we mean that expectations are such that they do not lead to systematic mistakes given the available information. …

The rest of this article is only available to active members of Questia

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Default project is now your active project.
Project items

Items saved from this article

This article has been saved
Highlights (0)
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

Citations (0)
Some of your citations are legacy items.

Any citation created before July 30, 2012 will labeled as a “Cited page.” New citations will be saved as cited passages, pages or articles.

We also added the ability to view new citations from your projects or the book or article where you created them.

Notes (0)
Bookmarks (0)

You have no saved items from this article

Project items include:
  • Saved book/article
  • Highlights
  • Quotes/citations
  • Notes
  • Bookmarks
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Buy instant access to cite pages or passages in MLA, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited article

Introduction to the New Keynesian Phillips Curve
Settings

Settings

Typeface
Text size Smaller Larger Reset View mode
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Help
Full screen

matching results for page

    Questia reader help

    How to highlight and cite specific passages

    1. Click or tap the first word you want to select.
    2. Click or tap the last word you want to select, and you’ll see everything in between get selected.
    3. You’ll then get a menu of options like creating a highlight or a citation from that passage of text.

    OK, got it!

    Cited passage

    Style
    Citations are available only to our active members.
    Buy instant access to cite pages or passages in MLA, APA and Chicago citation styles.

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

    1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

    Cited passage

    Thanks for trying Questia!

    Please continue trying out our research tools, but please note, full functionality is available only to our active members.

    Your work will be lost once you leave this Web page.

    Buy instant access to save your work.

    Already a member? Log in now.

    Author Advanced search

    Oops!

    An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.