Phillips Curve

Topics: Inflation, Economics, Unemployment Pages: 11 (2919 words) Published: July 10, 2011
An Investigation of Phillips Curve in South Asian Economies
M.I. Subhani, Kelash Kumar, Hafiz Ameen-ullah, Vikash Kumar and Adeel Ahmed

The relationship between price inflation and unemployment has always been a point of focus for the policy makers. As the historically negative relationship has been observed between inflation and unemployment in many economies which implies that if government seeks to reduce the inflation rate the unemployment goes up and if it wants to enjoy the lower unemployment it has to bear the burden of inflation. The present paper is an effort in this regard to identify this phenomenon for the South Asian Economies which include four countries Pakistan, India, Bangladesh and Sri Lanka. The work has been carried out by taking into account the thirty years historical rates of inflation and unemployment for all four countries. Findings of this paper suggest that there is no relationship between inflation and unemployment on aggregate level. In addition, the separate analysis of each country shows that, the relationship between inflation and unemployment is positive in Pakistan and negative in Bangladesh, while at the same time the independent movement has been observed of the two variables in India and Sri Lanka. The negative impact of rising inflation over unemployment is actually the existence of theoretical Phillips Curve which is evidenced by Bangladesh and it seems to be a result of migration of people towards employment sources. There is no existence of Phillips Curve in Pakistan, India and Sri Lanka.

Key Words: Inflation; Unemployment

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Phillips Curve shows an inverse relationship between the rate of inflation and the rate of unemployment in an economy. While it has been seen that there is a stable short run tradeoff between these two, but it has not been observed for the longer time. This relationship theory has been tested many times for eastern as well as western economies. Having a number of studies, there is still a contradiction about the theory. The present paper is also an attempt in this regard to identify this relationship in South Asian Countries including Pakistan, Bangladesh, India and Sri Lanka. A sample of 30 years rates of Inflation and Unemployment have been taken for all of the four countries, from the year 1981 to 2010, and Linear Regression Model has been applied to the penal data. It has been evidenced that on aggregate there is no significant relationship between Unemployment and Inflation; however the separate analysis for each country shows that in Pakistan there is a positive relationship between both the variables and in Bangladesh the inflation negatively affects the unemployment, i.e. Bangladesh evidence the existence of traditional Phillips Curve.

Phillips (1958) put the light upon the theory of a kind of tradeoff between the rate of inflation and the rate of unemployment. Phillips describes how he observed an inverse relationship between money wage changes and unemployment in the British economy over the period examined. This relationship depicts that the inflation rate depends insecurely upon the level of unemployment in an economy. Similar patterns were found in the other countries and Phillip’s work was further taken by Samuelson and Solow (1960) made the explicit link between inflation and unemployment: when inflation was high, unemployment was low and vice-versa. Fisher (1920) noted this kind of Phillips curve relationship. However, Phillips' original curve described the behavior of money wages. Since the core task of policy-makers of the state is to avoid both high unemployment and runaway inflation, Phillips Curve leaves the choice with the state to choose any one higher and enjoy the lower of other. If we are willing to tolerate high...
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