Phillips Curve

## The idea Named after economist A.W. Phillips, the curve captures a historical observation: when an economy runs hot and unemployment falls, wages and prices tend to rise, pushing inflation up; when slack increases and joblessness rises, inflation eases. In the short run, policymakers seemed to face a *trade-off* — they could buy lower unemployment at the cost of higher inflation.

## Why it became controversial The simple trade-off broke down in the 1970s, when many economies suffered stagflation — high inflation *and* high unemployment together. Economists Friedman and Phelps argued that once people expect inflation, the trade-off vanishes in the long run, and the economy gravitates to a "natural" unemployment rate regardless of inflation. The modern view is an *expectations-augmented* Phillips curve: only *unexpected* inflation moves unemployment, and the long-run curve is roughly vertical.

## Relevance to India The Phillips curve sits behind the RBI's monetary policy. The Monetary Policy Committee targets CPI inflation of 4% (±2%), and when it judges the economy is running above potential — pushing inflation up — it raises the repo rate to cool demand, accepting some growth/employment cost. The relationship is messier in India than the textbook because food and fuel prices (supply shocks, monsoon, global crude) drive a large share of CPI, and a vast informal labour market makes "unemployment" hard to measure cleanly.

## Why a mutual-fund investor should care The inflation-unemployment-rates chain decides interest rates, which in turn move bond and equity markets. When the RBI is hiking to fight inflation, debt-fund NAVs fall (yields up, prices down) and rate-sensitive sectors lag; when it cuts in a slowing economy, the reverse helps. Understanding the Phillips-curve logic helps you read RBI commentary and position between equity, duration and short-term debt funds through the cycle rather than reacting after the fact.