Phillips curve

The Phillips curve is a single-equation economic model, named after William Phillips, hypothesizing an inverse relationship between rates of unemployment and corresponding rates of rises in wages that result within an economy. Stated simply, decreased unemployment, (i.e., increased levels of employment) in an economy will correlate with higher rates of wage rises.[1] Phillips did not himself state there was any relationship between employment and inflation; this notion was a trivial deduction from his statistical findings. Paul Samuelson and Robert Solow made the connection explicit and subsequently Milton Friedman[2] and Edmund Phelps[3][4] put the theoretical structure in place. In so doing, Friedman was to successfully predict the imminent collapse of Phillips' a-theoretic correlation.

While there is a short run tradeoff between unemployment and inflation, it has not been observed in the long run.[5] In 1967 and 1968, Friedman and Phelps asserted that the Phillips curve was only applicable in the short-run and that, in the long-run, inflationary policies would not decrease unemployment.[2][3][4][6] Friedman then correctly predicted that in the 1973–75 recession, both inflation and unemployment would increase.[6] The long-run Phillips curve is now seen as a vertical line at the natural rate of unemployment, where the rate of inflation has no effect on unemployment.[7] In the 2010s[8] the slope of the Phillips curve appears to have declined and there has been controversy over the usefulness of the Phillips curve in predicting inflation. Nonetheless, the Phillips curve remains the primary framework for understanding and forecasting inflation used in central banks.[9]