The Phillips Curve, the Persistence of Inflation and the Lucas Critique: Evidence from Exchange Rate Regimes

We present evidence from the United States and the United Kingdom that the persistence of price inflation is significantly higher under managed-exchange-rate regimes than under gold-based, fixed-exchange-rate regimes. These differences are also reflected in expectations-augmented Phillips curves. We use a two-country macro model, with forward-looking price setters, to demonstrate that higher monetary accommodation of inflation and exchange-rate accommodation of inflation differentials increase inflation persistence. The evidence does not contradict this hypothesis. It supports the hypothesis of forward-looking price setters and highlights the empirical signijicance of the Lucas critique. (JEL E31, E42, F33)

American Economic Review (with Ron Smith)

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