Inflation – Unemployment Relationship | Economics Help
Inflation, unemployment, rate, economy, economist, U.S., demand, . The relation between unemployment and inflation has long held the. The Relationship between Inflation and Unemployment: A Theoretical Discussion about the Philips Curve. Maximova Alisa1. Abstract. Inflation. positive relationship between inflation and the output gap implied by the Phillips .. evaluate the labor market conditions, unemployment rate, and the other cost.
Phillips Curve - Learn How Employment and Inflation are Related
Phillips curve suggests as unemployment falls and the economy gets closer to full employment — inflation rises. How would inflation be affecting the recent rise in unemployment? Usually, a sudden rise in unemployment is due to lower economic growth — or fall in real GDP. A fall in AD causes lower economic growth and a rise in unemployment. Higher unemployment will make it harder for unions and workers to bargain for higher wages.
This is because if they ask for higher wages, employers can turn round and say there are 3 million unemployed people willing to work at lower wages. Therefore, wage inflation is likely to be muted during the period of rising unemployment. This will reduce cost push inflation and demand-pull inflation. The higher unemployment is also a reflection of the decline in economic output.
Inflation – Unemployment Relationship
Therefore, firms are seeing an increase in spare capacity and increase in volume goods not sold. In a recession, there will be greater price competition. Therefore, the lower output will definitely reduce demand-pull inflation in the economy.
Cost-Push Inflation — a worse trade off To complicate the issue, inflation can also be caused by cost-push factors.
However, if there is a decline in Real GDP, firms will employ fewer workers leading to a rise in unemployment. Empirical evidence behind trade-off The Phillips Curve is based on the findings of A.
There are occasions when you can see a trade-off. In the late s, inflation falls from 6. This suggests there can be a trade-off between unemployment and inflation. However, equally you can look at other periods, and the trade-off is harder to see.
Monetarist View The Phillips curve is criticised by the Monetarist view. Monetarists argue that increasing aggregate demand will only cause a temporary fall in unemployment. Monetarist Phillips Curve Diagram Rational expectation monetarists believe there is no trade-off even in the short-term. They believe if the government or Central Bank increased the money supply, people would automatically expect inflation, so there would be no improvement in real GDP.
Falling Inflation and Falling Unemployment In some periods, we have seen both falling unemployment and falling inflation. For example, in the s, unemployment fell, but inflation stayed low. This suggests that it is possible to reduce unemployment without causing inflation. However, you could argue there is still a potential trade-off except the Phillips curve has shifted to the left, because there is now a better trade-off. It also depends on the role of Monetary policy. Rising Inflation and Rising Unemployment It is also possible to have a rise in both inflation and unemployment.
If there was a rise in cost-push inflationthe aggregate supply curve would shift to the left; there would be a fall in economic activity and higher prices.