Morning Must-Read: Robert Waldmann: Phillips curves with Anchored Expectations

Was it Larry Summers who said that proofs that high-quality central banking couldn’t push average unemployment below (and low quality central banking above) the NAIRU should be classified the same way as proofs that it was not possible to either consistently win or lose at poker?

Robert Waldmann: Phillips curves with Anchored Expectations: “I will assume that unemployment is a function of actual inflation…

…minus expected inflation. I will also assume that people are smart enough that no policy will cause them to make forecast errors of the same sign period after period after period…. I will assume that perfect inflation forecasting causes unemployment to be 5%… [and] unemployment is linear in the inflation expectations error…. Under bounded rationality with hypothesis testing…. Forecasting rules are ordered from a first rule to a second, etc. When agents use rule n they also test the null that rule n gives optimal forecasts against the alternative that rule n+1 gives better forecasts. They switch to rule n+1 if the null is rejected at the 5% level…. I will assume that rules are also ordered so if rule n gives persistent underestimates of future inflation, rule n+1 gives higher forecasts…. Learning about the Fed Open Market Committee restarts each time a new Fed chairman is appointed…. The data used to test the current rule against the next one are only those accumulated with the current chairman… [who] are replaced at known fixed intervals…