The Philips Curve

Question 1

What do we expect the philips curve to look like?

Answer 1

We would expect their to be an inverse relationship between inflation and unemployment, therefore it will be an inverse curve.

Question 2

What relationship does the Philips curve suggest between inflation and unemployment? (3)

Answer 2

1 - Unemployment will never be 0, but the further unemployment reduces, the faster inflation increases.
2 - No matter how high unemployment is, prices (Wages) will never fall that much. Keynesian economists explain this is because workers are very reluctant to accept lower wages
3 - Governments face a tradeoff between unemployment and inflation - The gov could always lower unemployment, but will have to accept an increase in inflation creating an opportunity cost. Whether they choose unemployment or inflation depends on which one they think is the more important objective.

Question 3

What is the Monetarist view of the Phillips curve?

Answer 3

Monetarists reject the view that there is any trade off between unemployment and inflation, and instead believe the economy always naturally tends to full employment in the long-run, and increasing spending will simply lead to higher inflation. The long run Phillips curve from this view is a vertical line, however the short run curve is the same as the Keynesian curve, with the idea that in the long run with government intervention will return to FE at a higher inflation due to inflationary expectations.

Question 4

What big mistake do monetarist economists believe that Keynesian economists make in terms of the Phillips curve?

Answer 4

Monetarists believe the big mistake Keynesian economists have made is failing to account the effects of inflationary expectations. This refers to what people think will happen to inflation next year and will be largely influenced by what inflation is like now.

Question 5

When would you see a shift in the Philips curve?

Answer 5

If theres a change in the level of unemployment or inflation in the economy and it’s got nothing to do with the level of spending, this will bring about a change in the position of the Phillips curve.

Question 6

What has happened to the Phillips curve since 2020?

Answer 6

There have been 2 major changes since 2020:
1 - A big increase in cost-push inflation because of the increase in gas (energy) prices
2 - Because of covid, a lot of businesses have had to close down (particularly in the leisure industry) because of that, unemployment has gone up.