Here's a puzzle that has haunted economists for decades: when nearly everyone who wants a job has one, prices start climbing. When prices finally calm down, unemployment tends to rise. It seems like the economy is playing a cruel trick—forcing us to choose between two things we desperately want at the same time.

This tension has a name: the Phillips Curve. It's one of the most debated relationships in economics, and understanding it explains a lot about why central banks make the decisions they do—and why those decisions sometimes feel like they're hurting the very people they're supposed to help.

Imagine an economy that's humming along. Businesses are hiring, unemployment is low, and workers feel confident enough to ask for raises. This is great news for paychecks—but it sets off a chain reaction. When companies pay higher wages, they pass those costs on to customers through higher prices. And when everyone's spending more money, demand outpaces what the economy can produce. Prices drift upward.

In 1958, economist A.W. Phillips noticed exactly this pattern when he studied decades of British data. When unemployment was low, wages—and eventually prices—rose faster. When unemployment was high, inflation cooled off. The relationship looked remarkably stable, like a menu with only two options: pick low unemployment or pick low inflation, but you can't order both.

For policymakers, this felt like a roadmap. Governments could theoretically dial unemployment up or down by accepting a little more or a little less inflation. Spend more and create jobs? Inflation ticks up. Tighten the belt and cool prices? Some workers lose their jobs. It was a painful trade-off, but at least it seemed predictable.

Takeaway

When jobs are plentiful, workers gain bargaining power, wages rise, and businesses raise prices to compensate. Prosperity and price stability pull in opposite directions—at least in the short run.

The neat Phillips Curve menu worked for a while—until it didn't. By the late 1960s, economists Milton Friedman and Edmund Phelps pointed out a fatal flaw. The trade-off only holds when inflation catches people off guard. Once workers and businesses start expecting prices to rise, they adjust their behavior. Workers demand raises that keep up with inflation before it even arrives. Businesses bake expected price increases into contracts and budgets.

Think of it like a poker game. The first time someone bluffs, it works. But once everyone at the table knows the trick, the bluff loses its power. Similarly, if a government tries to keep unemployment permanently low by tolerating a little inflation, people eventually learn to expect that inflation. They build it into every wage negotiation and pricing decision.

The result? You get the inflation without the extra jobs. The economy settles back to what economists call the natural rate of unemployment—the level that exists when inflation expectations are accurate. Trying to push unemployment below this natural rate only buys temporary gains, followed by a permanent increase in the inflation people expect. The short-run trade-off is real. The long-run trade-off is a mirage.

Takeaway

You can surprise an economy into temporary prosperity, but once people adjust their expectations, the old unemployment level returns—now with higher inflation baked in. Expectations are the economy's immune system.

If the Phillips Curve says you trade jobs for price stability, what happens when you get the worst of both worlds? That's exactly what hit Western economies in the 1970s. Oil prices quadrupled after the 1973 embargo, and suddenly countries faced rising unemployment and accelerating inflation at the same time. Economists called it stagflation—stagnation plus inflation—and it wasn't supposed to be possible.

The problem was a supply shock. The Phillips Curve assumed that inflation came from too much demand chasing too few goods. But when the cost of energy—an input to virtually everything—skyrocketed, businesses raised prices not because customers were flush with cash, but because it cost more to make anything at all. Workers lost purchasing power, spending fell, and unemployment climbed even as prices kept rising.

Stagflation shattered the confidence policymakers had in a simple inflation-unemployment menu. It taught a painful lesson: the Phillips Curve describes one particular kind of economic pressure, not a universal law. When the disruption comes from the supply side—an energy crisis, a pandemic shutting down factories, a war disrupting grain exports—the old trade-off breaks down, and the standard playbook can make things worse.

Takeaway

The Phillips Curve works when demand drives the economy. But when a shock hits the supply side—making things more expensive to produce—you can get rising prices and rising unemployment simultaneously, and no easy policy lever fixes both.

The Phillips Curve isn't a law of nature—it's a pattern that holds under certain conditions and dissolves under others. Understanding it helps you see why central banks raise interest rates even when people are struggling, and why politicians promising both full employment and zero inflation are offering something the economy rarely delivers.

Next time you hear a debate about jobs versus inflation, you'll know the real question isn't which one we want. It's which trade-off we're willing to live with—and whether we're dealing with a demand problem or something else entirely.