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Monday, January 26, 2015

On Glasner on Friedman on Phillips

David Glasner has a very interesting post in which he discusses the question of whether David Hume came up with the argument that the long run Phillips curve is vertical or just with the idea that there is a Phillips curve.

In it, he argues that Friedman and Phelps's expectations based critique of the Phillips curve was not original. That sets me off on the usual which is a comment over there and reproduced here.

I very much agree with your claim that Friedman 1968 did not introduce the expectations critique of the Phillips curve. In fact the argument was made repeatedly before Phillips graphed his scatter plot, James Forder wrote a working paper on this

in which the expectations argument is made quite clearly by, among many others, Friedman in 1958, Simons in 1936, Samuelson and Solow 1960 and Hicks in 1967. Simons and Hicks pretty clearly state the view that the long run Phillips curve is vertical.

By the way, while there is overwhelming evidence against an expectations unaugmented Phillips curve, there is not overwhelming evidence that the long run Phillips curve is vertical. If there is downward nominal rigidity, then there can be a sloping long run Phillips curve (Akerlof GA, Dickens WT, Perry GL (1996) The Macroeconomics of Low Inflation [including comments by Gordon and Mankiw]. Brookings Papers on Economic Activity, 1996(1):1-59 [60-76]. Notably, in recent years US inflation and unemployment have fallen on what sure looks like an expectations unaugmented Phillips curve.

There are two separate issues -- is the slope of the long run Phillips curve as low as that of the short run Phillips curve (answer definitely not) and is the long run Phillips curve vertical (this does not follow). Importantly, Friedman argued convincingly that it was impossible to keep unemployment below the NAIRU. It doesn't follow that it is impossible to keep it slightly higher. If there is a range of unemployment over which inflation decelerates to zero, but not below (because of downward nominal rigidity) then unemployment can stay at any point in that range. For example what if with unemployment less than 5% one has accelerating inflation but unemployement must be greater 8% to cause actual deflation. In that case, one can have zero inflation with unemployment at any level between 5% and 8%. Thus far the Phillips curve has a horizontal part. The downward slope comes from having many local labor markets.

In any case, data from the 1970s do not prove that the long run Phillips curve is vertical. Empirical point estimates never had coefficients on lagged inflation adding up to one (unless this was imposed based on Friedman's theoretical argument).

On the other hand, David Hume definitely presented the quantity theory of money. I have no idea if he came up with the permanent income hypothesis.

1 comment:

Tim W said...

Phillips estimated an expectations augmented Phillips curve of the Australian economy while on sabbatical leave at the University of Melbourne in 1959. Phillips himself was independtly thinking about expectations and dynamics in the Phillips curve quite early on.