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On the Non-Inflationary effects of Long-Term Unemployment Reductions

Walter Paternesi Meloni, Davide Romaniello and Antonella Stirati

No inetwp156, Working Papers Series from Institute for New Economic Thinking

Abstract: The paper critically examines the New Keynesian explanation of hysteresis based on the role of long-term unemployment. We first examine its analytical foundations, according to which rehiring long-term unemployed individuals would not be possible without accelerating inflation. Then we empirically assess its validity along two lines of inquiry. First, we investigate the reversibility of long-term unemployment. Then we focus on episodes of sustained long-term unemployment reductions to check for inflationary effects. Specifically, in a panel of 25 OECD countries (from 1983 to 2016), we verify by means of local projections whether they are associated with inflationary pressures in a subsequent five-year window. Two main results emerge: i) the evolution of the long-term unemployment rate is almost completely synchronous with the dynamics of the total unemployment rate, both during downswings and upswings; ii) we do not find indications of accelerating or persistently higher inflation during and after episodes of strong declines in the long-term unemployment rate, even when they occur in country-years in which the actual unemployment rate was estimated to be below a conventionally estimated Non-Accelerating Inflation Rate of Unemployment (NAIRU). Our results call into question the role of long-term unemployment in causing hysteresis and provide support to policy implications that are at variance with the conventional wisdom that regards the NAIRU as an inflationary barrier.

Keywords: Hysteresis; Long-term Unemployment; NAIRU; Inflation; Labor Market. (search for similar items in EconPapers)
JEL-codes: E12 E24 J64 (search for similar items in EconPapers)
Pages: 57 pages
Date: 2021-04-09
New Economics Papers: this item is included in nep-lab and nep-mac
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:thk:wpaper:inetwp156

DOI: 10.36687/inetwp156

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