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Topic 5.2: The Phillips Curve
Learning Objective: a. Define (using graphs as appropriate) the short-run Phillips
curve and the long-run Phillips curve. b. Explain (using graphs as appropriate) short-
run and long-run equilibrium in the Phillips curve model.

Skill 4.B: Demonstrate your understanding of a specific economic situation on an

accurately labeled graph or visual

This lesson will address the following:

- Definition of the Phillips curve
- The short-run and long-run relationship between inflation and unemployment as
illustrated by the Phillips curve
- Shifters of the short-run and long-run Phillips curve
- Appropriate inflation-unemployment combinations on the SRPC corresponding with
output gaps shown on the AD-AS model

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 LESSON OVERVIEW
DIVIDER SLIDE
TEACHER NOTES & REQUIREMENTS

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FRQ from 5.1
Adapted from 1999 Q.1

1. Following an increase in consumer confidence, the US economy is experiencing a significant

increase in aggregate spending.
a) Using a correctly labeled aggregate demand and aggregate supply diagram, show how
the change in aggregate spending will affect each of the following in the short run.
i. Output
ii. The price level

b) Identify one fiscal policy action that could counter the effects identified in part (a).
Explain how this policy will affect each of the following.
i. Output
ii. Employment
iii.The price level

c) Identify one monetary policy action that could reinforce the effects of the fiscal policy
identified in part (b). Using a correctly labeled money market graph, show how this
policy will affect nominal interest rates.

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 FRQ from 5.1
Adapted from 1999 Q.1

1. Following an increase in consumer

confidence, the US economy is LRAS
Price SRAS
experiencing a significant increase Level
in aggregate spending.
a) Using a correctly labeled
aggregate demand and
aggregate supply diagram, P1
show how the change in P
aggregate spending will
affect each of the following
in the short run.
i. Output
ii. The price level AD1
AD
Y Y1 Yf Real GDP

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FRQ from 5.1 c) Identify one monetary policy action that could
b) Identify one fiscal policy action that reinforce the effects of the fiscal policy identified
could counter the effects identified in in part (b). Using a correctly labeled money
part (a). Explain how this policy will market graph, show how this policy will affect
affect each of the following. nominal interest rates.
i. Output Sell bonds, raise discount rate, or raise reserve
ii. Employment requirement
iii.The price level
Nominal MS1 MS
Decrease government Interest
spending/transfer payments or Rate
increase tax rates
i1
As a result of the contractionary
fiscal policy, AD will shift left, i
causing a decrease in output,
employment, and price level
MD

M1 M Q (money)
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Review: Changes in unemployment and price level on the AD-
AS model
 Assume a rightward shift of aggregate demand. Identify the resulting change in
unemployment and price level.
LRAS
Price SRAS
Level

• AD shifts right
P1 • Output increases
P • Unemployment decreases
• Price Level increases

AD1
AD
Y Y1 Yf Real GDP

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Review: Changes in unemployment and price level on the AD-
AS model
 Assume a leftward shift of aggregate demand. Identify the resulting change in
unemployment and price level.
LRAS
Price SRAS
Level

• AD shifts left
P • Output decreases
P1 • Unemployment increases
• Price Level decreases

AD
AD1
Y1 Y Yf Real GDP

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Review: Changes in unemployment and price level on the AD-
AS model
 Assume a rightward shift of the short-run aggregate supply curve. Identify the
resulting change in unemployment and price level.
LRAS
Price SRAS
Level SRAS1

• SRAS shifts right

• Output increases
P • Unemployment decreases
P1
• Price Level decreases

AD
Y Y1 Yf Real GDP

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Review: Changes in unemployment and price level on the AD-
AS model
 Assume a leftward shift of the short-run aggregate supply curve. Identify the
resulting change in unemployment and price level.
LRAS
Price SRAS1
Level SRAS

• SRAS shifts left

• Output decreases
P1 • Unemployment increases
P
• Price Level increases

AD
Y1 Y Yf Real GDP

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Review: Changes in unemployment and price level on the AD-
AS model
 Of the three types of unemployment, which two are included in the natural rate of
unemployment?

• The natural rate of unemployment is the sum of frictional and structural

unemployment
• At the natural rate of unemployment, there is zero cyclical unemployment

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What You Need to Know
5.2: The Phillips Curve Inflation
Rate
Defined: LRPC
- The Phillips curve model illustrates the
relationship between inflation and
unemployment in the short-run and the
long-run

- In the short-run, a trade-off exists

between inflation and unemployment,
illustrated by a negatively sloped short-
SRPC
run Phillips curve (SRPC)

- In the long-run, unemployment is not

affected by changes in the inflation Un Unemployment
rate, as illustrated by a vertical long- Rate
run Phillips curve (LRPC)

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5.2: The Phillips Curve
Illustrates the relationship between unemployment and inflation rates
Consider the 1960s in the U.S.
Inflation Rate
1960-1969
7.00%

6.00%

5.00%

4.00%

3.00%

2.00%

1.00%

0.00%
3.0 3.5 4.0 4.5 5.0 5.5 6.0 6.5 7.0

Unemployment Rate 16
Inflation
rate 1960-1979
14.00%

12.00%

10.00%

8.00%

6.00%

4.00% SRPC1970s

2.00%

0.00% SRPC1960s
3.0 4.0 5.0 6.0 7.0 8.0 9.0

Unemployment rate

All data from www.bls.gov

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 5.2: The Phillips Curve Movement along the SRPC
• Short-run macro equilibrium can be
Inflation identified at some point on the SRPC
Rate • Demand shocks move this point
Shifters of the SRPC
• Supply Shocks
π1 B • Adverse S Shock shifts SRPC right
• Positive S Shock shifts SRPC left
• Inflationary Expectations
• Increased: shifts SRPC right
π A
• Decreased: shifts SRPC left

SRPC1
SRPC
SRPC1
U1 U Unemployment
Rate
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5.2: The Phillips Curve
Inflation Shifters of LRPC
Rate LRPC LRPC1
Changes in NRU
What would cause the Natural Rate
of Unemployment to change?

Un Un1 Unemployment
Rate

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The Phillips Curve
How do we demonstrate understanding of a specific economic situation on an
accurately labeled graph of the Phillips curve? (Skill 4.B)

What economic situations should we be able to demonstrate?

• Movement along SRPC
• Due to shifting AD
• Shift of SRPC
• Reflection of SRAS
• Shift of LRPC
• Change in NRU
• Long-run equilibrium
• Output gaps
• Recessionary (Y<Yf)
• Inflationary (Y>Yf)

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Topic 5.2: The Phillips Curve
Learning Objective: a. Define (using graphs as appropriate) the short-run Phillips
curve and the long-run Phillips curve. b. Explain (using graphs as appropriate) short-
run and long-run equilibrium in the Phillips curve model.

Skill 4.B: Demonstrate your understanding of a specific economic situation on an

accurately labeled graph or visual

This lesson addressed the following:

- Definition of the Phillips curve
- The short-run and long-run relationship between inflation and unemployment as
illustrated by the Phillips curve
- Shifters of the short-run and long-run Phillips curve
- Appropriate inflation-unemployment combinations on the SRPC corresponding with
output gaps shown on the AD-AS model

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2017 Q1, parts a & b
1. Assume that the economy of Country X has an actual unemployment rate of 7%,
a natural rate of unemployment of 5%, and an inflation rate of 3%.
a) Using the numerical values given above, draw a correctly labeled graph of
the short-run and long-run Phillips curves. Label the current short-run
equilibrium as point B. Plot the numerical values above on the graph.
b) Assume that the government of Country X takes no policy action to reduce
unemployment. In the long run, will each of the following shift to the right,
shift to the left, or remain the same?
i. Short-run aggregate supply curve. Explain
ii. Long-run Phillips curve

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Device and Internet Access

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device. We’re working on solutions to help students get what they
need to show their best work. If you need mobile tools or
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directly to let us know.

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