What is the Phillips Curve?

There’s a lot of talk about the “Philips Curve” in regard to the Fed decision. What is the “Philips Curve”?

First, keep in mind it is an economic theory. A theory an is idea that is suggested or presented as possibly true but that is not known or proven to be true. A theory is a general belief about something works.

Investopedia explains the “Philips Curve”:

“An economic concept developed by A. W. Phillips stating that inflation and unemployment have a stable and inverse relationship. According to the Phillips curve, the lower an economy’s rate of unemployment, the more rapidly wages paid to labor increase in that economy.

The theory states that with economic growth comes inflation, which in turn should lead to more jobs and less unemployment. However, the original concept has been somewhat disproven empirically due to the occurrence of stagflation in the 1970s, when there were high levels of both inflation and unemployment.”

Source: Investopedia

Another great explanation from Khan Academy if you have 9 minutes to watch:

A One-Chart Preview of Today’s Fed Decision: This is what economists are expecting

I can’t image what it must be like sitting around watching and reading the news trying to figure out what the Fed is going to do next. Even if they could know, they still don’t know how the markets will react. New information may under-react to the news or overreact. Who believed there would be no inflation? bonds would have gained so much? the U.S. dollar would be so strong? Gold and oil would be so low? Expectations like that are a tough way to manage a portfolio. I instead predefine my risk and identify the actual direction and go with it. Others believe it comes down to a single word…

Bloomberg says: Here’s a One-Chart Preview of Today’s Fed Decision: This is what economists are expecting

By far the biggest question is whether the Fed will drop the word “patient” from its statement. If it does drop the word, it creates the possibility of a June rate hike, and it will mark the first time since the financial crisis that the Fed is offering no specific forward guidance as to when rate hikes will come.

About 90 percent of economists surveyed by Bloomberg expect the Federal Reserve to drop the word “patience” in today’s announcement.

fed decision interest rates

source:http://www.bloomberg.com/news/articles/2015-03-18/here-s-a-one-chart-preview-of-today-s-fed-decision

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