Phillips Curve
Plain definition
The curve showing the short-run inverse relationship between inflation and unemployment: lower unemployment tends to come with higher inflation, and vice versa.
In economics
The short-run Phillips curve slopes downward because tight labor markets let workers bid up wages, raising costs and prices. But expectations matter: the long-run Phillips curve is vertical at the natural rate of unemployment, so sustained demand stimulus only raises inflation. Supply shocks can shift the short-run curve, causing stagflation.
Example
Unemployment falls to 3.5% and employers compete for scarce workers, pushing wages up 5%. Firms pass costs to consumers, and inflation rises to 4%. Policymakers face the trade-off: pushing unemployment even lower would require accepting still higher inflation.
The Phillips curve is confused with a permanent menu of policy choices. The trade-off exists only in the short run; in the long run, unemployment returns to its natural rate regardless of inflation, so there is no lasting way to buy lower unemployment with higher inflation.