Question

Explain the Phillips curve as old Keynesian economists saw it in the early 1960’s. What was the relationship between inflation and unemployment, and why did Keynesian economists think of it as such?

Answer 1

In the simple keynesian model aggregate supply curve is horizontal at the full employment level. And beyond it it becomes horizontal that means perfectly elastic when economy experience a good deal of excess capacity or large scale of unemployment , idle capital stock.Increase in aggreagate demand before the level of full employment causes increase in the level of national output and also employment and constant price level. That explains no change in price level or if we say inflation, for raising the level of output and decrease unemployment. Thus in such case inflation occurs in the economy only after full employment level.

Inflation - Unemployment trade off-

A british economist A.W Phillips published an article(1958) and stated that there is an inverse relationship between rate of unemployment and of inflation.This curve is drawn from the data from 1961-69 for the US. This trade off presents a dilemma for the policy makers.