Does the Labour Share of Income Drive Inflation?

Jeremy Rudd and Karl Whelan ()
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Jeremy Rudd: Federal Reserve Board

No 2/RT/02, Research Technical Papers from Central Bank of Ireland

Abstract: Recent years have seen a proliferation in research aimed at assessing monetary policy rules using macroeconomic models built from explicit micro-foundations. In many versions of these models, pricing behaviour is described by a ``new-Keynesian Phillips curve,'' which relates inflation to expected future inflation and a driving variable related to production costs. Woodford (2001) has presented evidence that the new-Keynesian Phillips curve fits the empirical behaviour of U.S. inflation well when the labour income share is used as a driving variable, but fits poorly when deterministically detrended output is used. He concludes that the output gap---the deviation between actual and potential output---is better captured by the labour income share, in turn implying that central banks should raise interest rates in response to increases in the labour share. We show that the empirical evidence generally suggests that the labour share version of the new-Keynesian Phillips curve is a very poor model of U.S. price inflation. We conclude that there is little reason to view the labour income share as a good measure of the output gap, or as an appropriate variable for incorporation in a monetary policy rule.

Pages: 21 pages
Date: 2002-06
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Citations: View citations in EconPapers (3)

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Related works:
Working Paper: Does the labor share of income drive inflation? (2002)
Working Paper: Does the labour share of income drive inflation? (2002)
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