|10-09-2006, 09:36 AM||#1|
Join Date: Jun 2001
Location: Folsom Prison
Why Smart People Scare Me
Phelps challenged the prevailing view in the 1960s that there was a stable, negative relationship between inflation and unemployment, illustrated by the so-called Phillips curve.
"He recognized that inflation does not only depend on unemployment, but also on the expectations of firms and employees about price and wage increases," the academy said.
Phelps put together a new model to describe the relationship between inflation and unemployment, known as the expectations-augmented Phillips curve.
"That idea has been accepted all over the world," prize committee member Bertil Holmlund said. "It has been a resounding success story."
Phelps also showed that there is a precise "equilibrium unemployment rate" at which firms raise workers' wages at the same rate as average wages are expected to rise in the economy overall. Those findings have influenced central banks in their interest-rate decisions, the academy said.
"Phelps' work has fundamentally altered our views on how the macroeconomy operates," the citation said, adding his work proved fruitful in understanding the causes of the increases in both inflation and unemployment in the 1970s.
In its citation announcing the award, the academy said that Phelps had advanced the understanding of the trade-offs between full employment, stable pricing and rapid growth, all of which are the central goals of any sound economic policy.
"But policy always faces difficult goal conflicts. How should inflation and unemployment be balanced against each other?" the academy asked in the citation. "What trade off should be made between the consumption of current and future generations?"
Phelps' work advanced the understanding of those trade-offs.
"He has emphasized that not only the issue of savings and capital formation but also the balance between inflation and unemployment are fundamentally issues about the distribution of welfare over time," the academy said. "Phelps' analyses have had a profound impact on economic theory as well as on macroeconomic policy."
Phelps also pioneered the analysis of the importance of human capital, or workers themselves, for the diffusion of new technology and growth in the business and corporate world, the academy said in its citation.