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Testing price equations

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  • Fair, Ray C.

Abstract

How inflation and unemployment are related in both the short run and long run is perhaps the key question in macroeconomics. This paper tests various price equations using quarterly U.S. data from 1952 to the present. Issues treated are the following. (1) Estimating price and wage equations in which wages affect prices and vice versa versus estimating "reduced-form" price equations with no wage explanatory variables. (2) Estimating price equations in (log) level terms, first difference (i.e., inflation) terms, and second difference (i.e., change in inflation) terms. (3) The treatment of expectations. (4) The choice and functional form of the demand variable. (5) The choice of the cost-shock variable. The results suggest that the best specification is a price equation in level terms imbedded in a price-wage model, where the wage equation is also in level terms. The best cost-shock variable is the import price deflator, and the best demand variable is the unemployment rate. There is some evidence of a nonlinear effect of the unemployment rate on the price level at low values of the unemployment rate. Many of the results in this paper are contrary to common views in the literature, but the empirical support for them is strong.

Suggested Citation

  • Fair, Ray C., 2008. "Testing price equations," European Economic Review, Elsevier, vol. 52(8), pages 1424-1437, November.
    • Handle: RePEc:eee:eecrev:v:52:y:2008:i:8:p:1424-1437
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    Cited by:

    1. Fair, Ray C., 2012. "Has macro progressed?," Journal of Macroeconomics, Elsevier, vol. 34(1), pages 2-10.
    2. Ray C. Fair, 2010. "Possible Macroeconomic Consequences of Large Future Federal Government Deficits," NBER Chapters, in: Tax Policy and the Economy, Volume 25, pages 89-108, National Bureau of Economic Research, Inc.
    3. Dufour, Jean-Marie & Khalaf, Lynda & Kichian, Maral, 2013. "Identification-robust analysis of DSGE and structural macroeconomic models," Journal of Monetary Economics, Elsevier, vol. 60(3), pages 340-350.
    4. Ray Fair, 2009. "Possible Macroeconomic Consequences of Large Future Federal Government Deficits," Yale School of Management Working Papers amz2492, Yale School of Management.
    5. Dladla, Pholile & Malikane, Christopher, 2022. "Inflation dynamics in an emerging market: The case of South Africa," Economic Analysis and Policy, Elsevier, vol. 73(C), pages 262-271.
    6. Malikane, Christopher, 2014. "A new Keynesian triangle Phillips curve," Economic Modelling, Elsevier, vol. 43(C), pages 247-255.
    7. Malikane, Christopher, 2012. "Inflation dynamics and the cost channel in emerging markets," MPRA Paper 42688, University Library of Munich, Germany.
    8. Wolfgang Pollan, 2013. "US Inflation and Crude Oil Prices. An International Perspective," WIFO Working Papers 451, WIFO.
    9. Karagiannides, Gabriel, 2018. "Exploring the Determinacy Dynamics in an Open Economy," MPRA Paper 89268, University Library of Munich, Germany.
    10. Hossein Hassani & Abdol S. Soofi & Anatoly Zhigljavsky, 2013. "Predicting inflation dynamics with singular spectrum analysis," Journal of the Royal Statistical Society Series A, Royal Statistical Society, vol. 176(3), pages 743-760, June.
    11. Ray Fair, 2009. "Possible Macroeconomic Consequences of Large Future Federal Government Deficits," Yale School of Management Working Papers amz2492, Yale School of Management.
    12. Malikane, Christopher & Mokoka, Tshepo, 2012. "Monetary policy credibility: A Phillips curve view," The Quarterly Review of Economics and Finance, Elsevier, vol. 52(3), pages 266-271.
    13. Malikane, Christopher, 2012. "The microfoundations of the Keynesian wage-price spiral," MPRA Paper 42921, University Library of Munich, Germany, revised 29 Nov 2012.
    14. Xu, Yingying & Chang, Hsu-Ling & Lobonţ, Oana-Ramona & Su, Chi-Wei, 2016. "Modeling heterogeneous inflation expectations: empirical evidence from demographic data?," Economic Modelling, Elsevier, vol. 57(C), pages 153-163.
    15. Malikane Christopher, 2023. "A Traditional Nominal Wage Phillips Curve: Theory and Evidence," The Economic Record, The Economic Society of Australia, vol. 99(324), pages 108-121, March.

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    Price equations NAIRU;

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