Phillips Curve and Stabilization Policy Cheat Sheet

The core ideas of Phillips Curve and Stabilization Policy distilled into a single, scannable reference — perfect for review or quick lookup.

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Quick Reference

Short-Run Phillips Curve (SRPC)

A curve showing the inverse relationship between the inflation rate and the unemployment rate in the short run, holding inflation expectations constant. Movement along the SRPC occurs when aggregate demand changes.

Long-Run Phillips Curve (LRPC)

A vertical line at the natural rate of unemployment, indicating that in the long run there is no tradeoff between inflation and unemployment. The economy returns to the natural rate regardless of the inflation rate once expectations fully adjust.

Natural Rate of Unemployment

The unemployment rate that prevails when the economy is at full employment, consisting only of frictional and structural unemployment with zero cyclical unemployment. It is the rate at which the LRPC is vertical.

Inflation Expectations

The rate of inflation that workers, firms, and consumers anticipate in the future. Changes in inflation expectations shift the entire short-run Phillips Curve: higher expected inflation shifts the SRPC upward (rightward), lower expected inflation shifts it downward (leftward).

Crowding Out

The reduction in private investment that occurs when increased government borrowing drives up interest rates in the loanable funds market. Crowding out reduces the long-run effectiveness of expansionary fiscal policy because the increase in government spending is partially offset by decreased private investment.

Economic Growth Determinants

The factors that increase an economy's potential output over time, shifting the LRAS curve rightward. The four main determinants are increases in physical capital (tools, machines, infrastructure), human capital (education, training, health), technology and innovation, and natural resources.

Sacrifice Ratio

The percentage of a year's real GDP that must be forgone to reduce inflation by one percentage point. It measures the short-run cost of disinflation and explains why central banks often reduce inflation gradually rather than abruptly.

Supply-Side Policy

Government policies designed to increase aggregate supply and potential output by improving incentives and productivity. These include tax reforms, deregulation, education investment, and infrastructure spending. Unlike demand-side policies, supply-side policies can increase real GDP without raising the price level.

Key Terms at a Glance

Short-Run Phillips Curve (SRPC):A curve showing the inverse relationship between inflation and unemployment in the short run, with inflation expectations held constant.

Long-Run Phillips Curve (LRPC):A vertical line at the natural rate of unemployment, showing no long-run tradeoff between inflation and unemployment.

Natural Rate of Unemployment:The unemployment rate at full employment, consisting of frictional and structural unemployment with zero cyclical unemployment.

Inflation Expectations:The rate of inflation that economic agents anticipate in the future, which determines the position of the SRPC.

Crowding Out:The decrease in private sector investment that occurs when government borrowing raises interest rates in the loanable funds market.

Sacrifice Ratio:The cumulative percentage of real GDP that must be forgone to reduce inflation by one percentage point.

Stagflation:A macroeconomic condition of simultaneously rising inflation and rising unemployment, often caused by negative supply shocks.

Supply-Side Policy:Government policies aimed at increasing aggregate supply and potential output, such as investment in education, infrastructure, and deregulation.

Adaptive Expectations:A theory that people form their expectations of future inflation based on past inflation rates, adjusting gradually over time.

Rational Expectations:A theory that people form expectations using all available information, making systematic forecast errors unlikely.

Disinflation:A decrease in the rate of inflation (prices still rising, but more slowly). Distinct from deflation.

Debt-to-GDP Ratio:The ratio of a country national debt to its gross domestic product, used as a measure of fiscal sustainability.

Potential Output:The level of real GDP an economy can produce when operating at full employment. Represented by the LRAS curve.

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