Question

How would a decrease in energy prices affect the Phillips curve?

Short answer

The Phillips curve would be shifted lower towards its origin. As a result, unemployment and inflation will be reduced.

Step-by-step solution

Introduction

The Phillips curve, named after William Phillips, is a single-equation economic model that hypothesizes an inverse relationship between rates of unemployment and corresponding rates of pay increases within an economy. The Philips curve depicts the employment-inflation rate tradeoff.

Explanation

As the price of energy falls, this is a positive supply shock to the economy. This will increase aggregate supply, causing the AS curve to shift to the right. It will result in a decrease in the price level and a rise in real GDP. The Phillips curve would be shifted lower towards its origin. As a result, unemployment and inflation will be reduced.