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9 October 2006
Advanced information on Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel
Edmund Phelps’s Contributions to
Macroeconomics
1
Edmund Phelps’s Contributions to Macroeconomics
The relationship between inflation and unemployment and the tradeoff between the welfare of
current and future generations are key issues in macroeconomic research. They have a strong
influence on the choice of macroeconomic policy. Both issues concern tradeoffs between
different objectives. How should fiscal and monetary policy resolve the conflict between the
goals of low inflation and low unemployment? How should society trade off consumption today
against consumption in the future, i.e., how much should be saved in order to increase future
consumption? Edmund Phelps has made major contributions to the analysis of both of these
tradeoffs. In particular, he had the insight that also the balance between inflation and
unemployment reflects a fundamentally intertemporal problem.
Phelps pointed out that current inflation depends not only on unemployment but also on inflation
expectations. Such dependence is due to the fact that wages and prices are adjusted only
infrequently. Consequently, when adjustments are made, they are based on inflation forecasts.
Thus, the higher the anticipated rate of inflation, the higher the unemployment required to reach
a certain actual inflation rate. Phelps formulated the so-called expectations-augmented Phillips
curve. The intertemporal perspective implies that current inflation expectations affect the future
tradeoff between inflation and unemployment. A higher current inflation rate typically leads to
higher inflation expectations in the future, so that it then becomes more di