The idea of the natural rate of unemployment, more generally the equilibrium path of the unemployment rate, challenged the main tenets of Keynesian thought: that doctrine held that the unemployment rate was a function of effective demand, and demand management could aim for the unemployment rate deemed best. In the new Keynesian version, fiscal policy was to be governed by neoclassical considerations while monetary policy was to engineer a point on the unemployment–inflation trade-off – on the Phillips curve.

Modelling of the natural rate idea led to two propositions. One of these was a conclusion from the model sketched in my 1968 paper (Phelps, 1968, part 2). Management of monetary demand cannot engineer an arbitrary unemployment rate other than the natural level without sooner or later generating a continuing disequilibrium manifested by rising inflation or mounting deflation – then collapse. Maintaining the unemployment rate below the natural level, for example, would ultimately or immediately pull the actual inflation rate above the expected rate, which would drive up the expected rate; but each such rise would push the actual rate up by as much, leaving the disequilibrium undiminished.

The other proposition was implied by my 1967 paper (Phelps, 1967) and rather a similiar thesis was forcefully argued by Milton Friedman in his 1968 paper (Friedman, 1968). Monetary policy can make a permanent difference only to nominal variables: a policy to generate a finite increase or decrease in the inflation rate will generate only a transient dip of the actual unemployment rate relative to the path it would otherwise have taken.