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The Phillips curve and long-term unemployment

  • Llaudes, Ricardo
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    This paper studies the role of long-term unemployment in the determination of prices and wages. Labor market theories such as insider-outsider models predict that this type of unemployed are less relevant in the wage formation process than the newly unemployed. This paper looks for evidence of this behavior in a set of OECD countries. For this purpose, I propose a new specification of the Phillips Curve that contains different unemployment lengths in a time-varying NAIRU setting. This is done by constructing an index of unemployment that assigns different weights to the unemployed based on the length of their spell. The results show that unemployment duration matters in the determination of prices and wages, and that a smaller weight ought to be given to the long-term unemployed. This modified model has important implications for the policy maker: It produces more accurate forecasts of inflation and more precise estimates of the NAIRU. JEL Classification: C22, E31, E50, J64

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    File URL: http://www.ecb.europa.eu/pub/pdf/scpwps/ecbwp441.pdf
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    Paper provided by European Central Bank in its series Working Paper Series with number 0441.

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    Date of creation: Feb 2005
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    Handle: RePEc:ecb:ecbwps:20050441
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    1. Pedro Portugal & Olivier Blanchard, 2001. "What Hides Behind an Unemployment Rate: Comparing Portuguese and U.S. Labor Markets," American Economic Review, American Economic Association, vol. 91(1), pages 187-207, March.
    2. Laurence Ball & Robert Moffitt, 2001. "Productivity Growth and the Phillips Curve," Economics Working Paper Archive 450, The Johns Hopkins University,Department of Economics.
    3. Laurence Ball, 1999. "Aggregate demand and Long-Run Unemployment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 30(2), pages 189-252.
    4. Acemoglu, Daron, 1995. "Public Policy in a Model of Long-Term Unemployment," Economica, London School of Economics and Political Science, vol. 62(246), pages 161-78, May.
    5. Blanchard, Olivier & Wolfers, Justin, 2000. "The Role of Shocks and Institutions in the Rise of European Unemployment: The Aggregate Evidence," Economic Journal, Royal Economic Society, vol. 110(462), pages C1-33, March.
    6. Olivier J. Blanchard & Lawrence H. Summers, 1986. "Hysteresis and the European Unemployment Problem," NBER Working Papers 1950, National Bureau of Economic Research, Inc.
    7. Laurence Ball & N Gregory Mankiw, 2002. "The NAIRU in Theory and Practice," Economics Working Paper Archive 475, The Johns Hopkins University,Department of Economics.
    8. Addison, John T. & Centeno, Mario & Portugal, Pedro, 2004. "Reservation Wages, Search Duration, and Accepted Wages in Europe," IZA Discussion Papers 1252, Institute for the Study of Labor (IZA).
    9. Olivier Jean Blanchard & Peter Diamond, 1990. "Ranking, Unemployment Duration, and Wages," NBER Working Papers 3387, National Bureau of Economic Research, Inc.
    10. Blackaby, David H & Hunt, Lester C, 1992. "The "Wage Curve" and Long-term Unemployment: A Cautionary Note," The Manchester School of Economic & Social Studies, University of Manchester, vol. 60(4), pages 419-28, December.
    11. Andrew Atkeson & Lee E. Ohanian., 2001. "Are Phillips curves useful for forecasting inflation?," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 2-11.
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