Economics is indeed struggling with inflation theory. Monetary aggregates and monetarism have been correctly abandoned. Domestic slack explanations (the Phillips curve) have been under attack but are still a bit alive...1/n
There are tons of econometric papers trying to bury or defend a significant slope coefficient in complex reduced-form regressions that forecast inflation (also called Phillips curves to add to the confusion) or in PC embedded in models. Econometric results always insufficient.2/n
In July2019 I tweeted about some BIS papers, especially Kristin Forbes research showing that in times of globalisation there are too many drivers of inflation besides monetary policy and domestic slack in the economy. bis.org/publ/work791.p… 3/n
Other drivers: “exchange rates, oil prices, other commodity prices, slack in major economies (not just at home) and international pricing competition”. It is time to shed some myth that “Inflation is always and everywhere a monetary phenomenon”. 4/n
However, an ECB wp from last May uses 3 approaches and concludes that" All in all, we find that the causal impact of slack on inflation, as captured by the structural estimates, is substantially higher than implied by reduced-form estimates" 5/n .ecb.europa.eu/pub/pdf/scpwps…
Even using reduced-forms in a thick modelling and Bayesian model averaging approach:" Over the 2013-2017 period, the evolution of core inflation is largely attributable to the reduction in slack" but not from late 2017 onwards. " firm prot margins compressed" 6/n
For the US, though, a June ECB wp by Del Negro et al finds for price inflation:" that the slope of the Phillips curve must have fallen in the post-1990
period". But concludes against "the demise of the wage Phillips curve" 7/n ecb.europa.eu/pub/pdf/scpwps…
period". But concludes against "the demise of the wage Phillips curve" 7/n ecb.europa.eu/pub/pdf/scpwps…
Many factors have attenuated the effect of domestic slack on inflation(inertia, import prices, exch. rates, persistent inflation expectations). So, original bivariate PC appears dead. However, it´s possible to have reliable multivariate reduced-form PCs with a positive slope8/n
Anyone can feel lost in this ambiguity of econometrics... However, it´s indisputable that with globalisation, domestic slack has lost impact on price inflation and CBs have to recognise this and allow some economic overheating without risking inflation 9/n
Going beyond that, we see FED members talking more about letting inflation going above 2%, rationalising it with the concept of averaging inflation targeting. In its strategic review, the ECB should heed this and follow suit../end.
And @dandolfa
