Larry Ball and Greg Mankiw have a very nice paper on the unemployment rate at which inflation is stable--the so-called NAIRU. The most fascinating part of the paper deals with the question of why the U.S. NAIRU fell so far and so fast in the 1990s. Ball and Mankiw find that they lean toward the hypothesis that the NAIRU is actually closely linked to the trend rate of productivity growth.
Posted by DeLong at September 08, 2002 08:35 AM | TrackbackThe NAIRU in Theory and Practice: NAIRU stands for the nonaccelerating inflation rate of unemployment. It is beyond dispute that this acronym is an ugly addition to the English language. There are, however, two issues that fail to command consensus among economists, which we address in this essay.
The first issue is whether the concept of NAIRU is a useful piece of business cycle theory. We believe it is, and we begin this paper by attempting to explain why. In our view, the NAIRU is approximately a synonym for the natural rate of unemployment. This concept follows naturally from any theory that says that changes in monetary policy, and aggregate demand more generally, push inflation and unemployment in opposite directions in the short run. Once this short-run tradeoff is admitted, there must be some level of unemployment consistent with stable inflation.
The second issue is why the NAIRU changes over time and, in particular, why it fell in the second half of the 1990s. This question is more difficult, and the answer is open to debate. Most likely, various factors are at work, including demographics and government policies. Yet one hypothesis stands out as particularly promising: fluctuations in the NAIRU appear related to fluctuations in productivity. In the 1970s, the NAIRU rose when productivity growth slowed. In the 1990s, the NAIRU fell when productivity growth sped up...
non-NBER link to paper at http://post.economics.harvard.edu/faculty/mankiw/papers.html
Posted by: David on September 8, 2002 02:54 PMnon-NBER link to paper at http://post.economics.harvard.edu/faculty/mankiw/papers.html
Posted by: David on September 8, 2002 02:55 PMI guess we now have an unemployment rate above the level at which inflation stays constant. The problem is of course that there is no need for us to deflate at this point!
I was scratching my head about policies I would persue now as president. I thought: how about a historical drive to improve education achievement in the US? Build clean and safe schools in inner cities, hire good teachers and educators, pay them well (enough so that it's acceptable to fire them if necessary), give grants and scholarships (there'd be a special program for the long-term unemployed).
If you ask me where I'd find money for that, you're going to have to tell me where you're going to find the money for Desert Storm II (I heard estimates of costs running in 5%+ of GDP.) And the good thing is that if you throw books at people instead of bombs, you secure their adhesion to your society instead of allienating them.
And finally, it's a perfect Keynesian boost: it's money that goes into domestic infrastructure and to low- and middle-income level people who (have to) spend their money. Not like a Bushy tax break (there are progressive tax breaks, but that surely wasn't one...)
And the weirdest thing is that an idea like this is exotic in today's America. It would be one of my Presidential priorities. (Now you see, if there was any need, why I'm not President of this country.) I would call it the "War on Ignorance & Poverty", if you really need a war on every presidency to feel good in the morning.
P.S. Before I quit my Presidential mendate, I want to add that those who want to lower the interest rate in paralel are most welcome to. Actually, I exhort them to act swiftly.
Enough fun... I think I should stop immediately to listen to KPFA 94.1 ;-)
Posted by: Jean-Philippe Stijns on September 8, 2002 09:19 PMP.P.S. And in sofar as we're into burning younger generations' money for the sake of today's economy, we may as well offer them an education with it...
Posted by: Jean-Philippe Stijns on September 8, 2002 09:24 PMBrad: Can you connect the dots for me? You referenced a paper from 'Larry Ball and Greg Mankiw on the unemployment rate at which inflation is stable--the so-called NAIRU'. You also analyzed data from a paper by Bill Nordhaus on productivity trends and you showed the current 5-year moving average at almost 3%. Based on this, what is a good estimate of NAIRU in your opinion?
Posted by: Kurt Brouwer on September 9, 2002 04:31 PMIn 2000, the unemployment rate was as low as 4% and I don't think that's known to have generated much inflationary pressure. Productivity growth isn't supposed to have been affected much since them (at least according to both the Treasury and Laura Tison.) So that leaves us pretty much 2% above NAIRU. What I don't know personally is how symetric or asymetric are the effect of this unemployment gap on inflation. I would be glad to learn about what the profession thinks about this.
Posted by: Jean-Philippe Stijns on September 9, 2002 05:42 PMMy guess for the NAIRU? Somewhere between 4.5 and 5 percent. The productivity growth trend looks very strong, and that should mean a NAIRU in the 2000s at least as low as it was in the late 1990s...
Posted by: Brad DeLong on September 10, 2002 12:06 PM