The macro economic environment is capable to fluctuation in its cardinal variables such as rate of rising prices. economic growing. degrees of employment. exchange rate. trade rhythms and balance of payments. Economists feel that some of these fluctuations interact and a alteration in one affects the other. One alone interaction has been between unemployment rate and economic growing and the attendant rate of rising prices.

Unemployment rate includes those willing and able to take up work but are non able to happen any work. They can non be absorbed by the economic system soon. Policy shapers aim to take down unemployment but it is non possible to wholly extinguish it as some proportions of the labour force is ever between occupations. Inflation on the other manus. describes rise in general monetary value degrees. It is measured by assorted monetary value indices such as CPI and GDP deflator of the economic system against a basal twelvemonth. The higher the degree of rising prices the lower the buying power of consumers in the economic system and policy shapers will seek to maintain it every bit low as possible.

To take down unemployment. the authorities induces economic growing through financial and pecuniary policies. This increases money supply in the economic system. which leads to a rise in monetary value degrees. This means that when the authorities undertakes to take down unemployment. rising prices rises. A William Phillips foremost presented this trade off in 1958 when he represented the relationship on a graph. that is. the Philips curve. He plotted one-year growing in rewards against rate of unemployment in Britain or the period 1861-1913.

Annual
Rate of
Change
Of rewards

% Unemployment ( u )
( Lipsey. Richard. G. 1989: 601 )

The curve is convex to the beginning and negatively molded because of the imperfect opposite relationship between unemployment and rising prices. The information for the U. S from origin of the curve to 1969 reflected this relationship. However. the relationship did non keep from so to day of the month. From 1970 rising prices went up and so did unemployment therefore dismissing the Phillips curve.

This phenomenon is known as stagflation. Now theories come up to explicate stagflation. a major one being the non-accelerating rising prices rate of unemployment ( NAIRU ) . NAIRU states that on short tally Phillips curve resembles the traditional Phillips curve. In the long tally. unemployment is fixed at natural rate of unemployment and the attendant Phillips curve is perpendicular line at that rate of unemployment.

( Manuel Eduardo. 2007 )

The NAIRU provinces that any authorities action to take down unemployment below the natural employment rate merely reduces unemployment in the short tally before it shifts back to the natural rate. Inflation. on the other manus. goes up intending that the new equilibrium is at a higher rising prices and at the same rate of unemployment. This theory now has been discounted when a lower natural rate of unemployment was achieved in the U. S. The curve based on US informations from 1960 –1998 is given below.
( DeLong. Bradford. J. . 1998 )
I

nflation can either be demand-pull or cost-push. Identify to this analysis is cost-push rising prices. Cost-push rising prices consequences from high rewards that increase the cost production. which the manufacturer passes on to the consumers inform of high monetary values of the terminal merchandise. The high monetary values cut down the buying power of consumers among who are workers. Their existent income is depleted by the high monetary values and through their powerful brotherhoods they negotiate a salary rise with the manufacturer. The higher rewards once more pushes up the cost of production and monetary values spirals upwards as the rhythm is repeated. ( Blanchard. Olivier. 1997: 67 )

In the unemployment and rising prices opposite relationship. a capitalist would prefer that rising prices remains low. The capitalist would wish to maximise gross from gross revenues and low monetary values would take to higher gross revenues. To maintain the rising prices rate low. he must guarantee that the cost of production is low. In a labour-intensive industry. the capitalist must keep low pay measure. which will set him on a hit class with the workers.

Low rising prices would intend high unemployment rate. High unemployment warrants an available labour pool at all times. With high unemployment rates. a capitalist will be able to blackjack workers in to accepting low rewards which in bend would take to a lower monetary value degrees. If rewards were high it would take to be push rising prices. The capitalist would prefer greater sustainability between labour and capital to guarantee low cost of production and therefore low cost monetary values.

The labourers would choose for low unemployment. which would intend high rewards. Laborers would be able to negociate with the manufacturer for higher rewards since they would non be easy replaced a idle labour pool. This would force up the cost of production and lead to be push rising prices. But the effects of the rising prices would be mitigated by high rewards. If there were high unemployment rates. the labourers would be content with low rewards and would absorb such additions in monetary values. However. for the labourers to be able to negociate their rewards up to fit the rise in monetary values they must be extremely nonionized and possess alone accomplishments that are non cosmopolitan. They must besides be runing in a laborer-intensive industry where labour is the chief cost driver. The labour should non be easy substituted with capital as this lead to layoffs and therefore greater unemployment.

The society would prefer low rising prices coupled with low unemployment. However. his may non be accomplishable harmonizing to the Phillips curve. The society would be hurt by low rising prices. as it would be accompanied by high unemployment. High unemployment leads to many societal jobs. On the other manus. low unemployment would drive up rising prices. which would besides ache the society.

High rising prices means high consumer monetary values. which erode the existent rewards of the labourers in society. The society will therefore settee for moderate rates of both rising pricess and unemployment. The optimum degrees of both variables will be attained at minimal point of the curve. Unemployment will in the long tally be at the natural rate of unemployment. To accomplish this optimum degree. there must consist on both the sides of the capitalist and the labourer. Capitalist must absorb portion of the additions in rewards while labourers absorb portion of the addition in cost of production.

Decision

The traditional Philips curve has undergone much transmutation to reflect the relationship of between rising prices and unemployment over clip as it continues to free credibleness. Establishing the pecuniary and financial policy on the traditional Philips curve would give erroneous consequences as it has been proved that low unemployment can be accompanied by low rising prices.

Based on this curve. capitalists and labourers work at cross-purposes and the society provides the in-between land. However. when a capitalist opts for high unemployment. it besides reduces the market available. A labourer opts for higher rewards. which cut down the buying through higher monetary values. The Philips curve continues to be popular with economic experts and fiscal newsmans despite its legion defects.

Mention:
DeLong. Bradford. J. The U. S. Phillips Curve: Inflation and Unemployment. 1960 to the Present. 1998. Retrieved on1/22/07 from hypertext transfer protocol: //econ161. Berkeley. edu/multimedia/USPCurve. hypertext markup language
Lipsey. Richard. G. Introduction to Positive Economics. ELBS. London. Pp 601. 1989.
Manuel Eduardo. Phillips Curve For Advanced Economies On Time period
1996-2007 – United States And Euro Area Case. SSRN. 2007. Retrieved on 11/22/07 from hypertext transfer protocol: //papers. ssrn. com/sol3/papers. cfm? abstract_id=912772
Blanchard. Olivier. Macroeconomics. International Edition. Prentice-Hall International. N J. 67. 1997.