A Phillips Curve with Anchored Expectations and Short-Term Unemployment

This paper examines the behavior of U.S. core inflation, as measured by the weighted median of industry price changes. We find that core inflation since 1985 is well-explained by an expectations-augmented Phillips curve in which expected inflation is measured with professional forecasts and labor-ma...

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Bibliographic Details
Published in:Journal of money, credit and banking credit and banking, 2019-02, Vol.51 (1), p.111-137
Main Authors: BALL, LAURENCE, MAZUMDER, SANDEEP
Format: Article
Language:English
Subjects:
E31
Economic models
Inflation
Inflation expectations
Phillips curve
Specification
Unemployment
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Summary:This paper examines the behavior of U.S. core inflation, as measured by the weighted median of industry price changes. We find that core inflation since 1985 is well-explained by an expectations-augmented Phillips curve in which expected inflation is measured with professional forecasts and labor-market slack is captured by the short-term unemployment rate. We also find that expected inflation was backward-looking until the late 1990s, but then became strongly anchored at the Federal Reserve’s target. This shift in expectations changed the relationship between inflation and unemployment from an accelerationist Phillips curve to a level-level Phillips curve. Our specification explains why high unemployment during the Great Recession did not reduce inflation greatly: partly because inflation expectations were anchored, and partly because short-term unemployment rose less sharply than total unemployment.
ISSN:0022-2879
1538-4616
DOI:10.1111/jmcb.12502