The Phillips Curve
Phillips curve is a trade off between rate of wage inflation and unemployment and it has a short run and a long run. When there is a change in money wages it also means that there is an increase in labor cost firms which then increase the total cost of firms. So, when costs rise, the products prices go up and this is inflation. Unemployment is when people are willing to work but unable to get a job. Trade off between inflation and unemployment is when there is an inflation, unemployment falls, however when inflation falls, unemployment rises. This is problematic to the governments because they would like to achieve both by having high employment with low inflation. However, it is not possible to do that so government needs to choose one of them whether to have high inflation with high employment or low inflation with high unemployment. This is the graph showing phillips curve.
Keynesians who believed that economy’s equilibrium level of output may not tie up with the natural level of real GDP, argued when theres an increase in wages/output means that there is an increase in demand for labor so unemployment falls with a trade off of higher inflation. As aggregate demand falls, unemployment rises but inflation falls. This graph shows the increase in aggregate demand causing inflation and this is how Keynesians viewed the trade off between inflation and unemployment.
However, monetarists who attribute inflation only to increase in the money supply, stated that there is no relationship between unemployment and inflation. They believed that when there is an increase in aggregate demand will cause short term in fall in unemployment. They also believed that increase in aggregate demand causes rise in inflation but no affect in real GDP in the long term.