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ABSTRACT
This article empirically analyzes the relationship between unemployment rate and inflation rate in the Philippines over the period 1980-2006. The negative association between unemployment and inflation is known as the Phillips Curve because the trade-off relationship between these two variables was first pointed out by William Phillips in 1958. Since then, the Phillips Curve has remained an important foundation for macroeconomic management in various countries. The main finding of this study is that there exists a cointegrating relationship - but no causal relationship - between unemployment rate and inflation rate in the Philippines.
INTRODUCTION
In 1958, William Phillips published his seminal paper entitled "The Relationship between Unemployment and the Rate of Change of Money Wage Rates in the United Kingdom 1861-1957." In the paper, Phillips pointed out the existence of a trade-off relationship between unemployment and inflation in the United Kingdom. Since then, the inverse relationship between these two variables had been commonly referred to as the "Phillips Curve." Despite some criticisms regarding the basic tenets in the hypothesis, the Phillips Curve remains one of the most important foundations for macroeconomics. Since 1958 up to the present time, numerous research studies have been done on the Phillips Curve. As Hart (2003, 108) observed, "The Phillips Curve still plays a prominent role in macroeconomic theory and associated empirical work."
The basic tenets of the Phillips Curve can be understood by using the concept of labor demand and supply. If labor demand is bigger than labor supply, the excess in demand can put an upward pressure on the wage rate, which will cause high inflation in the country. In this situation, it would be easy for workers to find employment and as a result, unemployment rate would remain at low levels. By contrast, if labor supply is bigger than labor demand, the excess in the supply of labor would lower the wage rate which, in turn, would lead to a lower inflation rate. In this situation of excessive labor supply, it would be difficult for workers to find employment and unemployment would be at high levels.
In other words, during the years of economic boom in a country, companies would attempt to increase their production output and employ more workers. During such economic upturns,...