Job Market Paper

Nonlinearities in the Regional Phillips Curve with Labor Market Tightness


Abstract: This paper is the first to show the presence of nonlinearities in the regional U.S. New Keynesian Phillips curve with labor market tightness as a proxy for economic activity. Such nonlinearities contribute to explaining the unexpected and persistent post-COVID inflation surge and have important implications for monetary policy. The New Keynesian Phillips curve is a structural equation that describes inflation dynamics. It captures the concept that in demand-driven booms, workers ask for higher wages, leading firms to raise prices. Labor market tightness represents labor demand relative to labor supply and is a realistic approximation of labor costs. To guide my empirical exercise, I introduce wage rigidities and search-and-matching frictions in the labor market into a standard multi-sector, two-region New Keynesian model. The model delivers a piecewise log-linear regional Phillips curve, which becomes steeper when labor markets become sufficiently tight. I estimate the Phillips curve using panel variation in core inflation and a newly imputed measure of labor market tightness across U.S. metropolitan areas from December 2000 to April 2023. I instrument labor market tightness with a shift-share instrumental variable to take care of regional supply shocks. The regional Phillips curve has a positive slope that increases almost three times when labor market tightness exceeds the metropolitan area- specific average. This result suggests that if the monetary authority assumes that the Phillips curve is linear, it will risk underestimating inflationary pressures when labor markets run hot, allowing inflation to rise more than expected.


Working Papers

Inflation Since COVID: Demand or Supply?

with A. Cerrato (December 2022).  [Draft]

Abstract: We estimate the slope of the Phillips curve before, during, and after COVID to quantify the extent to which US post-pandemic inflation is propelled by demand factors. To do so, we exploit cross-sectional variation in inflation and unemployment dynamics across US metropolitan areas, using a shift-share instrument to isolate demand-driven fluctuations in local unemployment rates. We specify a two-region New-Keynesian model to derive the slope of the aggregate Phillips curve from our MSA-level estimates. We find that the slope of the Phillips curve dropped to zero during the pandemic and tripled relative to pre-COVID from March 2021 onward, reaching its highest level since the mid-1970s. Demand-driven economic recovery explains around 1.9 out of the 5.6 percentage-point increase in all-items inflation observed from March 2021 to August 2022. Notably, had the slope of the Phillips curve not steepened after COVID, the demand contribution to the rise in inflation would have been small and statistically insignificant.

Work in Progress

Real Interest Rates and the Redistribution of Nominal Wealth in the Euro Area

with M. Dossche, J. Hartwig, A. Matas Mir, M. Roth, T. Panagiota.  [Slides]

Are Demand Shocks Inflationary After All? Local Shale Booms and the Slope of the Phillips Curve

with A. Cerrato. [Draft]

Abstract: To what extent are demand shocks inflationary? The macroeconomic discipline has still not reached a consensus, while the question has regained particular importance in recent times as economists debate over the potential inflationary consequences of fiscal stimulus programs implemented to encourage economic recovery. To answer this question, we must estimate the slope of the Phillips Curve, the structural relationship between economic activity and prices. In this paper, we use exogenous variations induced by local booms due to hydraulic fracturing adoption in the U.S. oil and gas extraction industry to estimate the slope of the regional Phillips curve. Specifically, we adopt an event study approach: we exploit cross-sectional variations in land suitability for fracking to define the treatment and control groups and timing variation of fracking adoption to define the event. We estimate the slope of the (modified) regional Phillips curve to be 0.6. Finally, we construct a multi-region, multi-sectoral New Keynesian model to relate the slope of the regional structural equation to its aggregate counterpart.



13th Conference of the International Research Forum on Monetary Policy (Washington, DC) Discussion: "Breaks in the Phillips Curve: Evidence from Panel Data," by Smith, Timmermann & Wright