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What Is Philips Curve

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What Is Philips Curve
What is the Philips Curve? Explain why critics believe the relationship no longer holds.

Different macroeconomic policies can be implemented in order to achieve government’s main objectives of full employment and stable economy through low inflation. Philips Curve can be use as a tool to explain the trade-off between these two objectives. This essay will first explain the Philips Curve and its relation to inflation and unemployment. Then, the breakdown of Philips Curve will be analysed. Followed by an evaluation of short-run and long-run Philips Curve. Finally, it considers whether the Philips Curve still exists and is therefore relevant to policy makers.

Philips Curve illustrates the relationship between inflation and unemployment in an economy. Inflation is a sustained increase in the average price of goods over time. When there is inflation, value of money falls. In the UK it is mainly measured through retail price index. A low inflation rate indicates that average price of goods would not rise as high. Furthermore, unemployment exist when someone are available and actively seeking for work but unable to find any despite their willingness to accept the going wage rate.

The economist A.W Philips that was first put this theory forward in 1958 gathered the data of unemployment and changes in wage levels in the UK from 1861 to 1957. From the observation, he found that one stable curve represented the trade-off between inflation and unemployment. In other words, if unemployment increases, inflation will decrease, and vice versa.

Fig.1 The original Philips Curve: wage inflation against unemployment

Inflation (%)

Unemployment
Source: Griffiths and Wall, p.514

The downward sloping Curve in fig.1 shows that, in theory, there is an inverse relationship between inflation and unemployment. For example, after the economy has just been in recession, the unemployment


Bibliography: Begg, Fisher and Dornbusch (2001), Economics, 6th Edition, McGraw-Hill Griffiths, Alan and Wall, Stuart, Applied Economics: an introductory course, 8th Edition, London: Longman Mankiv, G. N (1998), Principles of Economics, The Dryden Press, USA Ormerod, P (1995), The Death of Economics, Faber and Faber Limited, London Sloman, J (2000), Economics, 4th Edition, Prentice Hall Websites
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