On the slope and the persistence of the Italian Phillips curve

Abstract

We investigate the determinants of inertia in Italian inflation, estimating a Phillips curve derived from a general equilibrium business-cycle model that allows for intrinsic and extrinsic sources of inflation persistence, along with trend inflation, and that encompasses both nominal and real rigidities as key factors of the output-inflation trade-off. We perform the estimation over two different sub-samples, 1981:Q1–1998:Q4 and 1999:Q1–2012:Q3, to take into account the structural break represented by the starting of the Economic and Monetary Union. We find that in the period between 1999:Q1 and 2012:Q3, the dependence of Italian inflation on its own past diminished and the slope of the Phillips curve dropped relative to the years before 1999. The latter is a consequence of increased strategic complementarity in price setting, due in turn to higher sensitivity of demand elasticity to firms’ relative prices, on top of lower trend inflation and an increase in the average duration of prices.

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