Foldvary, Econ 13

Chapter 22, inflation versus unemployment

The Phillips curve.

Originally, Phillips proposed that higher unemployment is accompanied by less wage increase.

Other economists turned that into a relationship between unemployment and inflation.

That suggested a way to exploit this with policy: increase M when unemployment is high.

Milton Friedman then argued that in the long run, monetary policy could not reduce unemployment.
In the long run, the Philips Curve is vertical.

Whether the Philips curve applies even in the short run depends on expectations.

Only an increase in unexpected inflation can have any effects, before prices change.

The Philips Curve broke down during the 1970s when there was both high inflation and high unemployment.

The Philips Curve became a philips screw!

Keynesians replied that the Philips curve had shifted.

But if any change in the Philips is a shift in the curve, the curve does not explain much, if anything.

New Classical theory is based on rational expectations.

Adaptive expectations is based on past information.

Rational expectations is also based on what people expect policy makers to do.

People will not be fooled more than once.

Chapter 23, debates over policy

Should policy makers try to stabilize the economy?
• Pro: policy can stablize AD.
  
• If AD is inadequate, expand money and G.

• Con: don't try. There is a long lag. Forecasting is imprecise.
  
• Policy can end up destabilizing.

• Third alternative: eliminate the causes of the instability and recessions.
  
• Land-value taxation and free banking.

Monetary policy debates:

fixed rule for money growth,
or discretion that responds to conditions?

Third approach: abolish the Fed.

Government debt? Borrow for investment.

The more fundamental debate is between free market or government planning and intervention.