What is the Phillips curve?

The Phillips curve, derived by William Phillips in the 1950s, describes the relationship between unemployment and inflation. By plotting annual figures against each other, an inverse relationship was seen to exist. That is, as unemployment decreases, inflation increases and vice versa. The reason for this relationship is as follows: As unemployment falls, and labour becomes scarce, employees realise they have more bargaining power, and so push their employees for higher wages. As firms pay higher wages, their costs of production increase, and so will pass the higher costs onto consumers through higher prices. On a macroeconomic level, this translates into inflation, which is why this relationship existed.In the 1970s however due to oil supply shocks, this direct relationship broke down, as 'stagflation' became prominent in the world economy, characterised with high unemployment rates, and high inflation rates.