The Phillips Curve Essay

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The Phillips Curve

Economists agree that unemployment and inflation are two of the major macroeconomic problems of the twentieth century. If a relationship between the two existed then this would be a major break through for the macro management of the economy. Phillips' work was empirical - started with evidence and worked towards a theory. The causation for the Phillips theory was that the level of unemployment caused the rate of change in money wages to be what it was.

'What economic theory lies behind this?'

As unemployment decreases the available pull of labour goes down. This means that resources become increasingly scarce and workers can push for higher wage rates. Or as unemployment decreases more people have
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They held that it was the government's duty to achieve the correct level of demand by manipulating its own spending and tax receipts, or in other words, to have an active fiscal policy. This policy required the government to spend more than it received if the economy had less than full employment. As a consequence, aggregate demand would rise through a multiplier effect and unemployment would fall. 'The inflation controversy - Demand-Pull or Cost-Push?'

Keynesian economists were divided into two camps. Some believed that inflation was caused by too much demand for goods and services, or excess demand i.e. Demand Pull Inflation. Such economists were very enthusiastic about the Phillips curve because it seemed to provide strong evidence for their views. The second camp of Keynesian economists believed that inflation was caused by cost pressures arising from high wage settlements gained by strong trade unions and from increases in import prices i.e. Cost Push Inflation. They were doubtful about the usefulness of the Phillips curve. On the

Nicholas Perry

evidence of the Phillips curve they thought that wage inflation and unemployment could be traded off against each other, that policy makers could decide to have a bit less unemployment in exchange for accepting a bit more wage inflation or vice versa. The Phillips curve helped the 'demand pull' Keynesians in another way as in order to manage the level
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