Short-Run Phillips Curve

Definition

The short-run Phillips curve is a graphical representation of the inverse relationship between the unemployment rate and the inflation rate in the short-run. It suggests that policymakers can lower unemployment by accepting a higher rate of inflation, or vice versa, in the short-term.

5 Must Know Facts For Your Next Test

1. The short-run Phillips curve is a key concept in Keynesian economics, which emphasizes the role of aggregate demand in influencing economic outcomes in the short-term.
2. The slope of the short-run Phillips curve represents the magnitude of the tradeoff between inflation and unemployment, known as the sacrifice ratio.
3. The position of the short-run Phillips curve can shift due to changes in factors such as productivity, expectations, and supply shocks, leading to a change in the inflation-unemployment tradeoff.
4. Policymakers can use the short-run Phillips curve to guide their decisions on monetary and fiscal policies, aiming to achieve their desired balance between inflation and unemployment.
5. The long-run Phillips curve is vertical, suggesting that there is no long-term tradeoff between inflation and unemployment, and that the economy will eventually return to its natural rate of unemployment.

Review Questions

• Explain the relationship between the unemployment rate and the inflation rate as depicted by the short-run Phillips curve.
  • The short-run Phillips curve shows an inverse relationship between the unemployment rate and the inflation rate. This means that in the short-term, policymakers can lower the unemployment rate by accepting a higher rate of inflation, or vice versa. The slope of the curve represents the magnitude of this tradeoff, known as the sacrifice ratio. For example, if the sacrifice ratio is 0.5, it would imply that a 1 percentage point reduction in the unemployment rate would come at the cost of a 0.5 percentage point increase in the inflation rate.
• Describe how the position of the short-run Phillips curve can shift and the factors that can cause these shifts.
  • The position of the short-run Phillips curve can shift due to changes in various factors. For instance, an increase in productivity would shift the curve downward, allowing for a lower inflation rate at any given unemployment rate. Similarly, a rise in inflationary expectations or supply shocks, such as an increase in the price of oil, would shift the curve upward, leading to a higher inflation rate at any given unemployment rate. These shifts in the short-run Phillips curve can pose challenges for policymakers, as they must adjust their policies to account for the changing tradeoff between inflation and unemployment.
• Analyze the implications of the long-run Phillips curve being vertical and how it differs from the short-run Phillips curve.
  • The long-run Phillips curve is believed to be vertical, suggesting that there is no long-term tradeoff between inflation and unemployment. This means that in the long run, the economy will return to its natural rate of unemployment, regardless of the inflation rate. This is in contrast to the short-run Phillips curve, which depicts a tradeoff between the two variables. The implication is that policymakers cannot permanently lower the unemployment rate by accepting a higher inflation rate, as the economy will eventually adjust back to its natural rate of unemployment. Understanding the differences between the short-run and long-run Phillips curves is crucial for policymakers in designing effective monetary and fiscal policies to achieve their desired economic outcomes.

Related terms

Unemployment Rate: The percentage of the labor force that is jobless and actively seeking employment.

Inflation Rate: The rate at which the general price level of goods and services in an economy increases over time.

Tradeoff: The idea that by choosing one option, you must give up another, resulting in a balance or compromise between two competing alternatives.