The Backward–Bending Phillips Curve And The Minimum Unemployment Rate Of Inflation: Wage Adjustment With Opportunistic Firms

Abstract

This paper presents a theory of the backward–bending Phillips curve. There is aminimum unemployment rate of inflation which offers a policy alternative to the non–accelerating inflation rate of unemployment. Nominal wages are downwardly rigid because workers oppose cuts initiated from within the employment relation. Instead, workers may acceptreal wage adjustments effected by increases in the general price level, a variableoutside individual firms’ control. This is why inflation ‘greases’labor market adjustment. However, workers resist too rapid a real wage adjustment,and too high an inflation generates wage resistance that cancels the grease effect and increases unemployment.

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