Edmund Phelps has waited a long time for his Nobel Prize. For investors pondering the future path of US inflation and growth, however, the award has come at an opportune moment. Prof Phelps was one of the first to recognise that there was such a thing as an equilibrium rate of unemployment. If governments tried to push joblessness below that level, they would merely end up accelerating inflation.

Prof Phelps since devoted much of his attention to how the equilibrium rate of unemployment changes over time. One of his ideas may be especially relevant to the hotly debated question of how much US employment might have to fall to stave off recent inflationary pressures. It has been a bit of a mystery why the low unemployment rates of the late 1990s failed to trigger inflation. Prof Phelps’s startling suggestion was that economists should take a closer look at asset prices, especially stocks.

High equity valuations suggest to companies that their assets – including a well-trained workforce – are more valuable than previously thought. Companies may then hire more workers and invest more in fixed assets while accepting more moderate price mark-ups. Many capital goods industries, notably construction, are highly labour intensive. For any given level of economy-wide demand, a stock market boom would lead to increased hiring and investment – and a lower equilibrium rate of unemployment.

The snag is that market valuations are likely to prove cyclical. Lower asset prices could decrease demand while simultaneously pushing up the unemployment rate needed to contain inflation. As Prof Phelps might be the first to admit, more research is needed, notably on the impact of other asset valuations such as residential housing. In the meantime, investors and policymakers should recall that a situation that appears too good to last usually does not.