What I wish to point out is that the relationship as depicted is an anomaly with respect to textbook AS-AD, including both Keynesian economics and Sumnernomics. Timothy Taylor refers to the relationship as a Phillips Curve. However, the Phillips Curve relates nominal wages to unemployment, and the chart shows real wages and unemployment. Although in standard macro nominal wages may rise as the unemployment rate falls, real wages are supposed to move in the opposite direction. In standard macro, aggregate supply is derived from movement along the demand curve for labor. When real wages rise by less than productivity increases, demand for labor rises and output goes up. When real wages rise by more than productivity increases, demand for labor falls and output goes down.
Let me start by pointing out that the graph Arnold is referring to does not show the cyclical behavior of real wages. For instance, in the graph real wages decline in 2009, whereas in fact real wages shot upward in 2009. I'm not sure what it does show, but it's not real wage cyclicality. But I'm more concerned with his reference to "Sumnernomics" which presumably refers to my "Musical Chairs model" of wages and the business cycle. Let me be very clear:
REAL WAGES PLAY NO ROLE IN THE MUSICAL CHAIRS MODEL.
I repeatedly emphasize that inflation is an almost meaningless variable, and hence real wages are equally meaningless.
I also encourage people to "never reason from a price change", which means don't assume the labor market is impacted by shifts in labor supply, or labor demand. Either is possible.
In fact, recent history is strongly supportive of "Sumnernomics", which predicts a positive correlation between Wages/NGDP Wage/NGDP and unemployment:
And if you take a longer view the model still does quite well:
Some people claim my model is almost like a tautology. I'll take that as a compliment.
PS. I forgot who sent me the second graph. If you send me your name I'll add it to the post.
PPS. I did use real wages in my Great Depression study (done in the 1990s), but emphasized that this was only because I lacked reliable high frequency NGDP data. And I also pointed out in the study that it was an ad hoc model, which applied only to the special circumstances of the interwar period---when the shocks hitting the economy happened to lead to countercyclical real wages. In addition, the price index I relied upon (the WPI) was probably more closely correlated to NGDP than it was to the CPI during the interwar period.