The Phillips Curve: Unemployment vs. Inflation & NAIRU
The short-run vs. long-run Phillips curve, unanchored inflation expectations, NAIRU modeling, and modern structural shifts.
1. The Evolution of the Phillips Curve
Originated by A.W. Phillips in 1958, the Phillips Curve posits an inverse trade-off between unemployment and inflation: lower unemployment tends to generate upward wage pressure, driving consumer price inflation higher.
2. Short-Run vs. Long-Run: The NAIRU Framework
Milton Friedman and Edmund Phelps demonstrated that while a short-run trade-off exists, in the long run the Phillips Curve is vertical at the Non-Accelerating Inflation Rate of Unemployment (NAIRU) — also called the natural rate of unemployment ($u^*$).
If central banks attempt to keep unemployment below NAIRU indefinitely through monetary stimulus, inflation expectations become unanchored, shifting the entire short-run Phillips curve upward into stagflation.
3. Why the Phillips Curve "Flattened" and Resurfaced
Between 2000 and 2019, globalization, supply chain efficiencies, and weakened union power flattened the Phillips curve. However, post-2020 supply shocks, deglobalization, and tight labor markets proved that when demand pushes past structural capacity limits, non-linear inflation spikes re-emerge rapidly.