Kiel Working Papers, Kiel Institute for World Economics
No 1354:
Changes in the Balance of Power Between the Wage and Price Setters and the Central Bank: Consequences for the Phillips Curve and the NAIRU
Jürgen Kromphardt and Camille Logeay
Abstract: In this paper we introduce and test the hypothesis that
the relation between inflation and unemployment has been in many countries
subject to a significant change in the early 1990's after the disinflation
period. That period began between 1975 and 1980 after the first (or the
second) oil price shock in autumn 1973. During the disin°ation period,
inflation and unemployment were the result of the struggle between the wage
and price setters trying to influence the distribution of income to their
favour and the Central Bank fighting against inflation. Since the wage and
price setters did not fully believe in an \unconditional" pursuit of the
anti-inflationary policy, the result was a gradual decline of the inflation
rate rendered possible by a rising rate of unemployment. Our hypothesis was
inspired by the observation that the statistical Phillips curves are now
rather flat in many countries. If such horizontal Phillips curves will also
result when they are estimated taking into account the most important other
factors influencing the inflation rate (mainly supply shocks) they may be
explained by the hypothesis that during the 1990's, wage and price setters
finally accepted the new rigour of the monetary policy and tried no more
(nor had the market power { due to increasing globalisation and
international competition) to pursue a policy which raises the inflation
rate significantly above the target inflation rate of the Central Bank. In
that case a "break" in the parameters of the Phillips-Curve should be
observed. We use econometric methods to test whether the presumed \break"
in the re- lation between inflation and unemployment can be shown to exist.
We restrict our study to the four largest countries of the Euro area
(Germany, France, Italy and Spain), the UK and the USA. The result are very
di®erent for the countries; therefore we intend in a further step to detect
the reasons for there divergences.
Keywords: Phillips curve, unemployment, inflation, wage and price setting, Central Bank, structural break; (follow links to similar papers)
JEL-Codes: E10,; E50,; C22,; C32; (follow links to similar papers)
41 pages, June 2007
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