DP3781 An Anatomy of the Phillips Curve
The Paper examines how the long-run inflation-unemployment trade-off depends on the degree to which wage-price decisions are backward- versus forward-looking. When economic agents, facing time-contingent, staggered nominal contracts, have a positive rate of time preference, the current wage and price levels depend more heavily on past variables (e.g. past wages and prices) than on future variables. Consequently, the long-run Phillips curve becomes downward sloping and, indeed, quite flat for plausible parameter values. This Paper provides an intuitive account of how this long-run Phillips curve arises.