Variation in the Phillips Curve Relation across Three Phases of the Business Cycle
Abstract: We use recently developed econometric tools to demonstrate that the Phillips curve unemployment rate?inflation rate relationship varies in an economically meaningful way across three phases of the business cycle. The first (?bust phase?) relationship is the one highlighted by Stock and Watson (2010): A sharp reduction in inflation occurs as the unemployment rate is rising rapidly. The second (?recovery phase?) relationship occurs as the unemployment rate subsequently begins to fall; during this phase, inflation is unrelated to any conventional unemployment gap. The final (?overheating phase?) relationship begins once the unemployment rate drops below its natural rate. We validate our findings in a forecasting exercise and find statistically significant episodic forecast improvement. Our analysis allows us to provide a unified explanation of many prominent findings in the literature.
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Provider: Federal Reserve Bank of Cleveland
Part of Series: Working Papers
Publication Date: 2019-05-03
- Working Paper Revision: Finding a Stable Phillips Curve Relationship: A Persistence-Dependent Regression Mode