The Anti-Phillips Curve Chart: No Relationship between Inflation and Unemployment

M any assertions about monetary policy are based on the Phillips Curve, illustrated in the following chart, that posits a particular relationship between the inflation rate and the unemployment rate:

The Phillips Curve, Keynesians insist, shows that to lower unemployment — a move from point B to point A on the chart — inflation should be raised (or allowed to rise), and that lowering inflation — a move from point A to point B — will increase unemployment. In its crudest form, this relationship is presented as an ironclad tradeoff. In more nuanced forms, it is presented as a correlation to keep in mind.

This theory is popular — and wrong. As anti-Keynesian economists, most famously Milton Friedman, have contended, other than in the very short term, the Phillips Curve theory is at odds with economic reality.

To illustrate this, in the following chart I plotted inflation and unemployment data for the years 1978–2023. Each point reflects the change in the inflation rate and the following year’s change in the unemployment rate, to show how a change in the inflation rate in a particular year corresponds with the unemployment rate in the following year.

The earliest year’s point in the chart shows the percent change between average CPI in 1978 and average CPI in 1977, paired with the difference between the December 1979 unemployment rate and the December 1978 unemployment rate.

The latest year’s point similarly shows the difference between average CPI in 2022 and average CPI in 2021, paired with the difference between the December 2023 unemployment rate and the December 2022 unemployment rate.

As you can see, there is no strong relationship between unemployment and inflation. The tradeoff doesn’t exist at all in any systematic way.

But the Phillips Curve theory makes a certain amount of sense intuitively. The primary monetary-policy tool used to reduce inflation — higher interest rates — would squeeze businesses, making it more difficult for them to hire workers and pushing up the unemployment rate. Why doesn’t that show up all the time in the data?

Perhaps it’s because inflation creates market confusion. Prices for various goods, services, and wages rise at faster, differing, changing, and uncertain rates.

This confusion makes it more difficult for businesses to estimate how much more or less consumers will purchase. That makes it more difficult to decide how much to produce, how much to invest in new equipment, how many people to hire and employ, and how many commodities, parts, and other goods to purchase for production or resale.

For individuals, higher inflation makes it more difficult to decide how much pay to demand and whether to change jobs. It makes it more difficult to decide how much to change the amounts of each product and service that they purchase, whether to instead purchase less expensive products and services, and how much to spend rather than save and invest.

This confusion, and particularly confusion concerning how many to hire and employ and how much to save and invest, likely plays a role in scrambling what is often presented as a straightforward relationship. On the other hand, lowering inflation reduces this confusion and makes all these decisions easier.

So reject the Phillips Curve and oppose inflationary policies. The data demonstrate that inflationary policies do not, as a rule, decrease unemployment.