The Shifting and Steepening of Phillips Curves During the Pandemic Recovery: International Evidence and Some Theory

Abstract

We study the global inflation surge during the pandemic recovery and the implications for aggregate and sectoral Phillips curves. We provide evidence that Phillips curves shifted up and steepened across advanced economies, and that differences in the inflation response across sectors made the price of goods relative to services behave procyclically rather than a-cyclically as during previous cycles. We present a two-sector new-Keynesian model where all three features (shifting, steepening, and relative price procyclicality) emerge endogenously once we introduce unbalanced recoveries that run against a supply constraint in the goods sector. A calibrated exercise shows that the resulting changes to the output-inflation relation are quantitatively important and greatly improve the model’s ability to replicate the inflation surge, both in magnitude and composition. These changes to the Phillips curve are also temporary: they disappear once supply constraints are no longer increasingly binding, leading to a sharp fall in goods inflation but a more gradual disinflation in services.