2.
Inflation & unemployment are the most economic
variables that affect us in our daily life
Inverse correlation between inflation & unemployment
Based on the fundamental principle of demand & supply
Inflation ought to be low when unemployment is high,
and vice versa
If demand for labor exceeds supply of labor leads to rising
wage inflation and vice versa
Relationship between inflation and
unemployment
3.
A.W. philips , first economist who found inverse
relationship between inflation and unemployment.
Philip hypothesized that if demand for labor is high ,
employers expected to bid wages up rapidly.
Relationship between unemployment & rate of
change of wages was highly non linear.
The curve depicting the relationship between general
price inflation rather than wage inflation &
unemployment came to be known as ‘philips curve’
Philips curve
4. low inflation and full employment are the cornerstone
of monetary policy.
Philip curves could be used to fine tune monetary or
fiscal policy to meet desired economic outcomes.
To aim for a balance between desired level of inflation
& unemployment.
A lower unemployment rate could be maintained
indefinitely as long as a higher inflation rate could be
tolerated.
Implication of philips curve
5.
Group of economists who were Staunch, Monetarists, led
by Milton Friedmand & Edmund Phelps.
They argued that the Philips curve does not apply over
the long term.
Consider a scenario in which the natural rate of
unemployment is prevalent.
Natural rate of unemployment is not a static number but
changes over time due to the influence of a number of
factors.
Friedman & Phelps finding gave rise to the distinction
between the short run long run.
Manetarists rebuttal
6.
The Philips curve works well in the short run.
It is appropriate when inflation is fairly constant.
It does not hold up over the long run since the economy
reverts to the natural rate of unemployment as it adjust to
any rate of inflation.
The relationship between inflation & unemployment has
broken down in period of stagflationary 1970s & the
booming 1990s.
The tradeoff between inflation & unemployment only
work as a temporary measured and is not a universal
panacea available to plicymakers.
The bottom line
