Does employment and inflation have a relationship? Yes of course. Can a wage-price spiral happen? Yes it can. A lot of economists exploit this possibility to incorrectly argue for NAIRU.
This post is a continuation of a recent post Simon Wren-Lewis, NAIRU And TINA in which I argued that NAIRU is not a useful concept and is counterproductive.
That wage-price spirals can happen isn’t a proof for NAIRU itself. NAIRU is defined as the unemployment rate U* below which prices start accelerating (or inflation starts to rise indefinitely). But the NAIRU hypothesis is a hypothesis of certainty. Economies are complex dynamical systems and just because wage-price spirals may have happened in the past doesn’t imply that it will always happen.
In the last mentioned how stock-flow consistent models, full employment can be achieved with no rising inflation, just higher inflation when parameters about wage-bargaining aren’t changing or if intervals between settlements shorten.
As I said in my previous post, NAIRU advocates think that a fraction of the workforce should be kept unemployed to keep inflation under control. By claiming that there exists a NAIRU or an unemployment rate below which prices necessarily start accelerating, they do a huge disservice to not just Economics but also to the welfare state. Any politician reading about NAIRU is likely to take away the incorrect notion that if unemployment is pushed too low, hyperinflation can happen. Hence the politician responsible for taking decisions is likely to postpone or abandon the pursuit for full employment.
So one can cogently believe all three of the following:
- there is a relationship between employment and inflation
- wage-price spiral can occur
- NAIRU is wrong.
In other words, NAIRU proponents exploit the possibility to claiming a certainty. Wage-price spirals happened in the 70s and Joan Robinson even saw it coming. But wage-spiral is not NAIRU. Conflating the two is vile.
What are the solutions if a wage-price happens? There is a lot of literature for an “incomes policy” from economists such as Nicholas Kaldor. For the purposes of this post, it’s not necessary to go in that direction as it’s not needed in current times at least in the advanced economies.