People are socialist by nature Part II

The Phillips Curve was created in 1958 by A.W. Phillips after he published an article in Economia. He found a relationship between unemployment and inflation. He found that:

  • Years with high unemployment had low inflation
  • Years with low unemployment had high inflation

This is illustrated by the graph below:Short run

As you can see in year red inflation is 6% and the unemployment rate was 2% and then in year blue inflation was at 4% and unemployment was at 7%.

The data they used was from the United Kingdom, but they also found this correlation with other countries.

This was a dream come true for policy makers and politicians because now they can take care of the two killers of the economy.

Milton Friedman then came along and published "What Monetary Policy Can Do" and "What Monetary Policy Cannot Do." Where he found that this was only true in the short-run, like I mentioned in the last post. Right after that Edmund Phelps came out in agreement, that there was no such thing as a long term trade off between inflation and unemployment.

They said the graph actually looked like this:

Long Run

Notice that no mater where you put the inflation rate the unemployment rate will stay the same in the long run. I believe this is due to things like artificially inflated wages.

So now in the long-term all you have is high inflation and because people expect the change in the Phillips Curve.

You say "So you taught me the Phillips Curve, now what does that have to do with the economic stimulus plan?"

The point is to look at government programs to stimulate the economy with a very weary eye because they do not always look into your long-term interests.

Like trying to help the people who have bad loans. In the short-term it helps Johnny Moore keep is house, but in the long-term it says to the consumer; keep making bad loans don’t worry the government using the rest of Americans money will bail you out.

Information mostly from Principles of Macroeconomics by N. Gregory Mankiw Third Edition

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Published in: on January 30, 2008 at 3:41 am  Comments (2)  

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2 CommentsLeave a comment

  1. […] This is my two part take on what I think of most stimulus packages… I and II […]

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