testimony
Phelps: the trade-off is dynamic, not timeless (1967) Phelps's reframing of the Phillips trade-off as an intertemporal one — a more inflationary policy buys a transitory employment gain today at the cost of permanently higher inflation in the future steady state. The natural-rate result, reached independently of Friedman.
From the 1967 Economica paper that derived the natural-rate hypothesis on search-theoretic grounds, a year before Friedman's AEA address.
The policy trade-off is not a timeless one between permanently high unemployment and permanently high inflation but a dynamic one: a more inflationary policy permits a transitory increase of the employment level in the present at the expense of a (permanently) higher inflation and higher interest rates in the future steady state.
This is the natural-rate result stated as a sentence about time . The 1960s policy mind read the Phillips Curve as a standing menu — pick a point, live there. Phelps replaces the menu with an intertemporal budget: the lower unemployment a government chooses now is borrowed against a future of higher inflation that does not buy any lasting employment back. The phrase “future steady state” is doing the heavy lifting — it presumes that the system tends toward an equilibrium unemployment rate independent of the inflation rate, which is exactly the natural rate. Phelps arrived here from the micro-economics of wage-setting under uncertainty rather than from Friedman’s quantity-theoretic route , and a year earlier; the convergence of two independent derivations is much of why the conclusion stuck.
Edmund Phelps , 1967. Edmund S. Phelps, 'Phillips Curves, Expectations of Inflation and Optimal Unemployment over Time,' Economica, New Series, 34(135), p. 256, August 1967. . source ↗
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