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Monetary policy is decision-making under uncertainty. Central bankers do not disagree about the benefit of price stability.
They differ on how much insurance they are prepared to pay to protect themselves against failure to meet the target.
Wolfgang Munchau, Financial Times 22/5 2006

The rule brilliantly argued for by Milton Friedman in the 1960s was a money supply rule.
But would a monetary rule make sense in the spontaneous and generally innovative economies of, say, the US and the UK? It is a good question.
Edmund Phelps, Financial Times, 25/4 2006

The writer is director of the Center on Capitalism and Society, Columbia Universityy.

A fail-safe feature it had was that if the rule somehow made money too tight, product and labour markets would come to the rescue by scaling back price and wage increases, thus sparing the nation a recession or swiftly reversing one.
What sunk that sort of rule was a collapse of the structural relationship between money and inflation.

Mr Bernanke belongs to a generation of economists whose schooling has cultivated a taste for rules – fixed, hence predictable, and mechanical, hence transparent.

The rule advocated now, however, would set the short rate of interest. In the standard textbook rule, created by John Taylor, the Stanford University economist, in the 1980s, the real short rate (the money interest rate less the inflation rate) is set higher the greater is inflation, and lower the greater is unemployment. If perchance the inflation rate is at its “target” and unemployment is at the “natural unemployment rate”, the real interest rate is to be set equal to the “natural interest rate” – the real rate businesses could afford to pay if unemployment were at the natural unemployment rate.
Mr Taylor took the natural rates to be constants.

Commitment to an interest rate rule would be dangerous because the product and labour markets could not rescue the economy from the consequences of an error in the rule.

Should the natural interest rate be below the level the rule took it to be, no fall in prices and wages could restore unemployment to its natural rate: their fall would pull down the money supply with them, leaving no net restorative effect.
That was Keynes’s message in the 1930s, when the Bank of England’s tacit policy was to keep rates around what it supposed the natural interest rate level to be, with little knowledge of where that level was.

Research of mine and others in the 1990s strongly suggests that the natural interest rate and the natural unemployment rate have taken long swings and experienced sharp shifts to new territory.
Phelps, “Structural Slumps” (Harvard, 1994); Phelps and Zoega, “Structural booms”, Economic Policy (2001)

In recent articles and a forthcoming book on exchange rates and risk, Roman Frydman and Michael Goldberg have got to the bottom of what is wrong with fixed rules: in entrepreneurial economies, people possess only “imperfect knowledge” about the economy’s structure. And the structural relationships themselves are “unfolding” as learning and creativity occur. It follows that commitment to a fixed rule would add new sources of uncertainty – possibly worse than the sources removed by barring “discretion”.

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The Taylor Rule


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We discussed in Jackson Hole:
Phillips Curves in the industrial world, particularly the United States, have become much flatter as the result of globalization.
That is, the trade-off between unemployment and inflation in the United States has become weaker, because labor costs embedded in the products and services we consume in America are a function of not just US wages, but global wages, which are a function of both expansion and slack (unemployment) in the global labor market.
Paul McCulley, PIMCO September 2006

This is hugely important for Fed policy, because a flatter Phillips Curve, sometimes also called a higher Sacrifice Ratio, means that the Fed need not worry that a falling US unemployment rate will quickly generate a rapid acceleration in US wage-driven inflation, as US labor’s pricing power is diminished by competition from an augmented global labor supply.
This is good news.

It is also bad news,
many in Jackson Hole argued, in that if the Fed takes too much comfort in the good news, letting the inflation rate creep ever north of its so-called comfort zone, a flatter Phillips Curve means that the Fed would have to take unemployment higher and for longer than used to be the case to get inflation back down.

- So, what you are telling me is that while the Fed can still be rightfully held responsible for long-term inflation outcomes, the ways and means of inflation control over cyclical horizons, which are tied to the Phillips Curve, have changed?

PM: Fair summary, Morgan, very fair. Indeed, this reality was the connection between the official and unofficial discussions at Jackson Hole. We all agreed that globalization secularly flattens the cyclical Phillips Curve. But beyond that, there was huge debate and disagreement about exactly what this implies for the conduct of monetary policy. In particular, there was a huge philosophical debate about the role of inflationary expectations in the cyclical inflation processes.

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Från: CJ datum: 5 jul 1994: Englund är på krigsstigen.
Frågan är hur han kan ha rätt i att ta fram Keynes när den höga arbetslösheten och övriga problem idag är orsakade av osäkerhet om framtiden (och därav det höga ränteläget) - mer grundläggande problem är de höga skatterna och regleringarna men de är svåra att attackera på kort sikt.

Tanken att stimulera ekonomin i ett sådant läge kräver särskild argumentation. Det strider också mot senare års erfarenheter vilket jag påpekade för Rolf i den emaildebatt vi haft de senaste dagarna och som också möjligen bidragit till att få upp debattångan på vår vän. se nedan.

Tidigare kommentarer Datum: 04 jul 94:

Samma gamla visa som när ekonomerna rasade mot Thatchers budget från 1981, men som räddade Storbritannien då.

Hur förklarar denne odynamiske Phelps Danmarks budgetära återhämtning 1983-86 då statens nettoupplåning minskade med 11 procent av BNP efter ett program med strukturella budgetförbättringar på närmare 8 procent av BNP (huvuddelen utgiftsnedskärningar), och samma sak, Irland 1986-89 när regeringen skar 8 procent av BNP på utgiftssidan och minskade nettoupplåningen med 9 procent av BNP.

Till dessa exempel kan läggas USA 1975-78, Norge 1977-81 och 1982-85,Kanada 1985-88, Australien 1986-89.

Just nu kan man väl peka på Wolrath och penningmarknaden som ytterligare en empirisk indikation på att förväntningar spelar en avgörande roll. Vilket också förefaller intiutivt riktigt.

Heja Buchanans s k Lekmannauppfattning om budgetunderskott!

Keynes had no sure cure for slumps
The recent collapse of speculation on houses is a non-monetary phenomenon
Edmund Phelps, Financial Times, November 4 2008

The program to revive the operation of the banks through purchase of the toxic assets faces a sticky wicket. If the government sets the prices too low, the banks will supply little of their assets; If the Treasury sets its prices too high, its funds will buy only a portion of the toxic assets Edmund Phelps, Wall Street Journal, 1/10 2008

How Edmund S. Phelps, Nobel Prize winner, got it wrong on stagflation
Those individuals who spent the new money first benefit at the expense of those who spend the new money later on
Brookes, 16/10 2006..... full text here

A famous stagflation episode occurred during the 1974-75 period. In March 1975 industrial production fell by nearly 13 per cent while the yearly rate of growth of the consumer price index (CPI) jumped to around 12 per cent.

Below we provide a simplified framework of thought of Phelps and Friedman (PF) regarding the inflation unemployment trade-off and its link to stagflation.

When money is injected there must always be somebody who gets the money first and somebody who gets the new money last.

This in turn means that those individuals who spent the new money first benefit at the expense of those who spend the new money later on.
(Ludwig von Mises, Human Action 3rd revised edition p 416-417).

Contrary to PF’s theories, money cannot grow the economy even in the short-run. On the contrary an increase in money only undermines real economic growth. Notice that this conclusion is reached regardless of whether the money rate of growth is expected or unexpected.


According to another variant, led by Ludwig Von Mises and Friedrich Hayek, the problem is that during the boom investment exceeds societys permanent willingness to save and is therefore distorted in an excessively capital-intensive direction. Full economic recovery has to wait until this mistaken investment has been corrected.
Samuel Brittan, Financial Times, July 18 2001

Mr Phelps argued that inflation will not settle until unemployment rises to its “natural rate”, leaving some workers mouldering on the shelf. Given economists' almost theological commitment to the notion that markets clear, the presence of unemployment in the world requires a theodicy to explain it. Mr Phelps is willing to entertain several. But in much of his work he contends that unemployment is necessary to cow workers, ensuring their loyalty to the company and their diligence on the job, at a wage the company can afford to pay.

The Economist 12/10 2006

Economists, including some of his own students, commonly take this natural rate to be slow-moving, if not constant, and devote a great deal of effort to estimating it. Mr Phelps, by contrast, has been more anxious to explain its fluctuations, and to recommend measures to lower

("The equilibrium path of the unemployment rate always approaches the natural rate, as before. But something has been added. The natural rate moves!"
- Most noneconomists, of course, would not find that a startling insight.
Robert Kuttner, Business Week 1994-06-06)

Full text at The Economist

Ekonomipriset till Edmund Phelps

Hans arbeten har ökat förståelsen av sambandet mellan kort- och långsiktiga effekter av ekonomisk politik. Bidragen har haft avgörande betydelse för både forskning och politik, skriver akademien vidare. Phelps formulerade hypotesen om den "förväntningsutvidgade Phillipskurvan".
Enligt den beror inflationen både på arbetslösheten och inflationsförväntningarna. Han kunde därmed visa hur dagens politik bestämmer förutsättningarna för den framtida stabiliseringspolitiken, skriver akademien.
Phelps analyser klargjorde också de begränsningar som politiken arbetar inom och som man tidigare inte varit tillräckligt medveten om. Följden har blivit att makroekonomisk politik förs på ett helt annat sätt än tidigare, enligt akademiens motivering.
Hans studier har bland annat lett till att centralbankerna i dag baserar sina räntebeslut på andra grunder än tidigare.

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Vetenskapsakademins motivering

Edmund S. Phelps Home Page

Nobel prize for economist Phelps, By Chris Giles, Economics Editor Financial Times
October 9 2006

This relationship between inflation and unemployment became known as the “Phillips curve” and seemed to conform with a crude interpretation of the teachings of John Maynard Keynes. Ultimately the relationship was to break down in the early 1970s, but before the facts proved its downfall, it had come under theoretical attack from Edmund Phelps and Milton Friedman in the late 1960s. Prof Phelps was critical about the purely statistical nature of the Phillips curve. He said that expectations of price rises tended to go up when unemployment was below an ‘”equilibrium rate”, which can differ between countries, depending on institutions and the strength of the labour market. If unemployment falls below this equilibrium level, inflation tends to rise (as in the standard Phillips curve model) but then expectations of inflation rise accordingly, resulting in no lower unemployment but higher inflation.

The disastrous rise in inflation in the early 1970s was partly a result of policymakers not understanding that the equilibrium unemployment rate had risen as productivity growth fell

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Comment by Rolf Englund
Does that explain the Stagflation?


Till Mats Svegfors m fl Från: Rolf Englund 1994-07-02

Edmund S. Phelps vid Harvard hyllades nyligen av bl a Economist för sin nya bok "Structural Slumps" som en ny Keynes

Jag läser nu boken för att skriva om den i Smedjan. På sidan 364 - i kapitlet Economic Policies to Which the Structuralist Theory Might Lead - heter det:

"One can only be puzzled that, in the 1990s, several countries have responded to contractionary forces with accelerated measures to cut (understruket) their budgetary deficits. It would be prudent to postpone these measures in the hope that the external climate improves."

Phelps kan väl inte anses som vare sig förlegad eller som Keynesian?

Den nye Keynes (Phelps) om västvärldens arbetslöshet

Ekonomiprofessorn Edmund Phelps, Columbia University, författare till den nyligen utkomna boken Structural slumps : the modern equilibrium theory of unemployment, interest, and assets, som av Economist betecknats som "en av detta årtiondes viktigaste böcker", skriver inför G7-mötet om sysselsättningen och arbetslösheten i västvärlden.

Den stigande arbetslösheten i Europa beror på de förödande skatterna. Början till visheten, men bara början, bestod i insikten att pengarna (money), deras mängd och omloppshastighet (velocity), inte har någon bestående inverkan på sysselsättningen.

- Som jag och Milton Friedman påpekade på 60-talet, skriver Phelps, kan man alltid få upp sysselsättningen tillfälligt genom en konstlat hög penningström, men bara till priset av stigande inflation.

På motsvarande sätt kan en brist på total efterfrågan (spending) trycka ner sysselsättningen till en för låg nivå, men då kommer inflationen att sjunka, vilket kommer att få regeringarna att öka sina utgifter och därmed åter få upp sysselsättningen. (Phelps har tydligen inte hört talats om Natalie Wibble.)

Arbetslösheten återgår till sin s k naturliga nivå NAIRU), den lägsta nivå arbetslösheten kan ha, vid rådande flexibilitet på arbetsmarknaden, utan att inflationen accelererar, Non-Accelerating Inflation Rate of Unemployment.

Arbetslösheten kan således dels pendla av och an förbi NAIRU (konjunktur), dels kan NAIRU förflyttas (struktur).

Phelps har studerat NAIRU. Han menar också att höjda arbetsgivaravgifter, det vi helst kallar löneskatter, liksom inkomstskatter, men inte moms, ökar arbetslösheten.

WSJ 94-03-14)

Efter Keynes - Phelps?

Edmund Phelps, Structural slumps : the modern equilibrium theory of unemployment, interest, and assets, Harvard University Press, kommer av ekonomerna att betraktas som en av detta årtiondes viktigaste böcker.

Tidigare ekonomer, Keynes, klassiska och neoklassiker, har alla ansett att arbetslösheten beror på att ekonomin inte är i jämvikt eller att priser och löner är för låsta (i synnerhet nedåt).

Men modern forskning skall nu ha visat att det kan bli arbetslöshet även när ekonomin är i jämvikt. Ett stort steg framåt med andra ord.

Det kan bero på något strukturellt fel, tror man, och Phelps skall ha fogat samman bitarna till något helt som man förut aldrig har sett.

(Economist 94-03-05 sidan 100)

Robert Kuttner 94-06-06 i Business Week:

Columbia University's Edmund S. Phelps examines unemployment by year and by country for 1955 to 1990 in his recent, influential book, Structural Slumps. His finding:

"The equilibrium path of the unemployment rate always approaches the natural rate, as before. But something has been added. The natural rate moves!"

- Most noneconomists, of course, would not find that a startling insight.

Början på sidan