Inflation and Activity – Two Explorations and their Monetary Policy Implications
We explore two issues triggered by the crisis. First, in most advanced countries, output remains far below the pre-recession trend, suggesting hysteresis. Second, while inflation has decreased, it has decreased less than anticipated, suggesting a breakdown of the relation between inflation and activity. To examine the first, we look at 122 recessions over the past 50 years in 23 countries. We find that a high proportion of them have been followed by lower output or even lower growth. To examine the second, we estimate a Phillips curve relation over the past 50 years for 20 countries. We find that the effect of unemployment on inflation, for given expected inflation, decreased until the early 1990s, but has remained roughly stable since then. We draw implications of our findings for monetary policy.
Extended version of the paper presented at the ECB Forum on Central Banking in Sintra, Portugal on “Inflation and unemployment in Europe” on May 22, 2015. We thank Larry Ball and Sandeep Mazumder for comments and help, as well as Yangfan Sun and Daniel Rivera for excellent research assistance. Comments by Larry Ball, who was our discussant, led to substantial changes in the second part of the paper. We also thank Zeno Enders, Stephan Danninger, Chris Erceg, Jaewoo Lee, and other IMF colleagues for comments. Our paper builds on Martin and Wilson (2013) and IMF (April 2013) Chapter 3. This paper was also published as IMF WP/15/230. The online appendix is available at: http://www.imf.org/external/pubs/ft/wp/2015/wp15230app.pdf . The views expressed herein are those of the authors and do not necessarily reflect the views of the IMF, its board of directors, or the National Bureau of Economic Research.
Olivier Blanchard & Eugenio Cerutti & Lawrence Summers, 2015. "Inflation and Activity - Two Explorations and their Monetary Policy Implications," IMF Working Papers, vol 15(230).