it deals with the unemployment and inflation

1. PHILLIPS CURVE

2.  A . W. Phillips was the British economist.
 Spent most of his academic career as a
Professor of economics at the London School
of Economics.
 He invented the Phillips curve of economics in
1958.
 He identified inverse relationship between the
rate of unemployment and rate of increase in
money wages.

5.  REASON: This is so because workers are reluctant to offer their services at less
than the prevailing rates when the demand for labour is low & unemployment is
high so that wage rates falls very slowly.
 REASON: This is because when the demand for labour is high & there are very
few unemployed we should expect employers to bid wage rates up quite rapidly.
UNEMPLOYMENT IS HIGH
UNEMPLOYMENT IS HIGH
RATE OF INCREASE IN MONEY
WAGE IS LOW
UNEMPLOYMENT IS LOW
RATE OF INCREASE IN MONEY
WAGE IS HIGH

6.  The second factor which influences this inverse relationship between
money wage rate & unemployment is the Nature of Business activity.
 In a period of Rising business activity when unemployment falls with
increasing demand for labour, the employers will bid up wages.
 In a period of Falling business activity when demand for labour is
decreasing & unemployment is rising, employers will be reluctant to grant
wage increases. Rather they will reduce wages.
 But workers & unions will be reluctant to accept wage cuts during such
periods.
 Consequently, employers are forced to dismiss workers, thereby leading to
high rate of unemployment.

8.  %age change in money wage rate on the vertical axis with the rate of
unemployment on horizontal axis.
 The PC Curve is known as Philip curve.
 The curve is convex to the origin which shows that %age change in money
wag rises with decrease in unemployment rate.
 when the money wage rate is 2%, the unemployment rate is 3%.But when
the money wage rate is high at 4%; the unemployment rate is low at 2%.

9.  If the rate of increase in money wage is higher then the growth rate of labour
productivity, price will rise & vice versa.
 But prices do not rise if labour productivity increases at the same rate as
money wage rate rise.
 This trade-off between the inflation & unemployment rate can be explained
with fig 1 where inflation rate (P) is taken on vertical axis along the rate of
change in money wage (W).
 Suppose labour productivity rises by 2% per year & if money wage also
increases by 2% , the price level remain constant.
 Thus point B on the PC curve corresponding to percentage change in money
wage (M) & unemployment rate of 3% equal 0% inflation rate (P) on the
vertical axis.
 The difference between money wage rate & the rate of labour productivity is
inflation rate.

10.  Now assume that economy is operating at point B.If now aggregate
demand is increased, this lower the unemployment rate of OT (2%) &
raises the wage rate to OS (4%) per year.
 If labour productivity continues to grow at 2% per annum, the price level
will also rise at the rate of 2% per annum at point C.
 With the movement of the economy from B to C, unemployment falls to T
(2%).If point B & C are now connected they trace out a Philip curve PC.

11.  The shape of the PC curve further suggest that when the unemployment
rate is less than 5.5% i.e. left to point A, the demand for labour is more
than the supply & this tend to increase money wage rate. On the other
hand, when the unemployment rate is more than 5.5 % i.e. right to point A,
then supply of labour is more than the demand which tends to lower wage
rate. The implication is that the wage rate will be stable at the
unemployment.
 It is to noted that PC curve is the ‘conventional’ or original downward
sloping Philip curve which show a stable & inverse relation between the
rate of unemployment & the rate of change in wages.