Short Run Phillips Curve

• Phillips curve


  Relationship between inflation and unemployment
• Short-run Phillips curve


  • Shows conflict between inflation and unemployment
  • Can be used to show demand-pull inflation
  • Can be used to show cost-push inflation
• The Phillips curve was developed by New Zealand economist William Phillips in the late 1950s/early 1960s
• Wage growth

  Relationship between wage growth and unemployment
• Inflation rate

  Economists changed the y-axis from wage growth to inflation rate as firms were labor-intensive and changes in wages fed directly through to inflation
• Low unemployment


  High inflation
• Low inflation

  High unemployment
• Deriving the short-run Phillips curve from the classical model

  1. Full employment at P1, Y1

  2. Shift AD to right, increases growth, reduces unemployment but increases inflation

  3. Shift AD to left, decreases growth, increases unemployment but reduces inflation
• The basic short-run Phillips curve does not explain periods of stagflation (high inflation and high unemployment)
• Adapting the short-run Phillips curve to explain stagflation

  1. Negative supply shock shifts SRAS left

  2. This increases inflation and unemployment simultaneously

  3. Short-run Phillips curve shifts to the right to show stagflation
• Adapting the short-run Phillips curve to explain positive supply shocks

  1. Positive supply shock shifts SRAS right

  2. This reduces inflation and increases employment

  3. Short-run Phillips curve shifts to the left
• The short-run Phillips curve has limitations as it does not show long-term equilibrium, which the classical model can
• Monetarists further adapted the Phillips curve model to address its limitations