The Demise of the High Inflation Trade-Off Interpretation A Reply to Chapple

Abstract

Two pieces of historical evidence have forced a re-evaluation of the textbook story about Phillips’ contribution to stabilisation policy. The first is the realisation that there existed, prior to Lucas (1976), a ‘Phillips Critique ’; the second is that Friedman used what is now called “Phillips ’ Adaptive Inflationary Expectations Formula” to undermine the high inflation Phillips Curve. In a subsequent paper, I shall argue that Phillips constructed his econometric policy evaluation critique in three stages. The first stage (1950–62) involved work on the curve that bears his name; the second (1967–8) and third (1972) were of more general applicability. The first stage took zero or trivial inflation plus exogenous import prices as part of the ‘structure’ of his model; a regime shift to a non-trivial inflation outcome changed the ‘structure’ of his model. In particular, an inflation-devaluation spiral (caused by quite small inflation differentials) would, via rising (and now endogenous) import prices, set offa “wage-price spiral” thus displacing Phillips curve observations off to the right in a stagflationary direction. In the present paper, I shall demonstrates that Chapple has unwittingly surrendered his position about the stable trade-off in Phillips’ work: when inflation generates the expectation of a continuation of inflation this, in Phillips’ model, increases inflation still further, thus destroying the notion of a “stable” tradeoff. But the instability caused by inflation in Phillips’ model is far removed from the cosy equilibrium forces of the conventional natural-rate model. Thus Chapple’s defence of the textbook story tell us more about the reliance on textbooks as the transmitter of ‘authoritative analysis’ than it does about Phillips’ subtle and insightful stabilisation proposals.