The Economist, Keynesian Economics, and the Phillips Curve

Daniel J. Mitchell performs a fisking on an article in The Economist magazine:

Writing about the stagnation that is infecting western nations, the magazine beclowns itself by regurgitating stale 1960s-style Keynesianism. The article is worthy of a fisking (i.e., a “point-by-point debunking of lies and/or idiocies”), starting with the assertion that central banks saved the world at the end of last decade.

The point I want to make is about the Phillips Curve, which Dan refers:

According to adherents, all-wise central bankers can push inflation up if they want lower unemployment and push inflation down if they want to cool the economy.

This idea has been debunked by real world events because inflation and unemployment simultaneously rose during the 1970s (supposedly impossible according the Keynesians) and simultaneously fell during the 1980s (also a theoretical impossibility according to advocates of the Phillips Curve).

The common understanding of the Phillips Curve is not based on what Mr. Phillips actually studied. This is from John P. Hussman.

The Phillips curve, named after economist A.W. Phillips, is widely understood as a “tradeoff” between inflation and unemployment. The idea is so engrained in the minds of economists and financial analysts that it is taken as obvious, incontrovertible fact.

John agrees with Dan about the common definition and its acceptance but there is another problem with the Phillips Curve.

See, the Phillips Curve takes its name from a 1958 Economica paper by A.W. Phillips, which studied the relationship between unemployment and wage inflation in Britain, using a century of historical data through the 1950’s. What Phillips found was this: when unemployment was low, wage inflation tended to be above-average, and when unemployment was high, wage inflation tended to be subdued. . . .

The answer is simple. During most of the period that Phillips studied, Britain was on the gold standard. As a result, the general price level was actually very stable, with very little general price inflation at all. . . .

The true Phillips Curve, then, is a relationship between unemployment and real wages.

Note, when analysts use the word “real” like this it means adjusted for inflation.

John delves into detail if you wish further explanation.


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