Journal Article

A Reappraisal of the Inflation-Unemployment Tradeoff

European Journal of Political Economy

This paper offers a reappraisal of the inflation–unemployment tradeoff, based on frictional

growth, describing the interplay between nominal frictions and money growth. When the money

supply grows in the presence of price inertia (due to staggered wage contracts with time

discounting), the price adjustments to each successive change in the money supply are never able to work themselves out fully. In this context, temporary nominal rigidities let monetary policy have permanent real effects. Although our theory contains no money illusion, no permanent nominal

rigidities, and no departure from rational expectations, there is a long-run inflation–unemployment tradeoff. Our empirical analysis suggests that this Phillips curve may be reasonably flat. We show that the persistence of inflation and unemployment, in response to monetary policy shocks, is related to the slope of the long-run Phillips curve.

Authors

Marika Karanassou
Hector Sala