TESTING THE EXISTENCE AND STABILITY OF PHILLIPS CURVE IN ROMANIA 67 TESTING THE EXISTENCE AND STABILITY OF PHILLIPS CURVE IN ROMANIA MIHAELA SIMIONESCU 1 ABSTRACT The main objective of this study is to check the existence and the stability of Phillips curve for Romania, on the horizon from 1990 to 2013. According to Phillips Perron tests, all the variables are inte- grated of order 1. ARDL and DOLS approaches to co-integration were used to analyse the Philips relations and ECM to study short run dynamics. There is a negative relation between inflation and unemployment rate in the short run and a positive relationship in the long run in Romania. The tests like recursive residual, CUSUM and CUSUMsq tests confirm that there is a stable Philips relation. KEY WORDS: Phillips curve, dynamic model, Co-integration, ARDL, DOLS JEL classification: E 31; E 24; J64 Received: February 12, 2014 / Accepted: June 2, 2014 1. INTRODUCTION The nominal wage inflation was graphed against unemployment rate in England, and a stable negative and tight relationship was observed in the last century, this graph representing Phillips curve. Moreover, this relation was checked for the developed economies and in most cases the Phillips curve was not valid. Authors like Solow (1970), Onder (2004) and Faridul et al. (2011) studied the theoretical background of the Phillips curve. The eventual trade-off helps policymakers to solve the macroeconomic disequilibrium. The Phillips curve did not succeed to predict the economic crisis in 1970s. There are more groups of researchers regarding their opinion about Phillips curve validity: the group against the use of this curve (Phelps (1967), Friedman (1968), Okun (1975), Lucas (1976)) and the group that demonstrated a non-linear relationship (Onder (2004), Kustepeli (2005), Furuoka (2007), Tang and Lean (2007), Schreiber and Wolters (2007), Dammak and Boujelbene (2009)). On the other hand, there are authors that proved an unstable relationship between the two variables (Okun (1975), Lucas (1976), Turner (1997); Atkeson and Ohanian (2001); Niskanen (2002); Demers (2003) and Reichel (2004)). Karanassou et al. (2005) proposed models under the assumption of low inflation, existing long-run trade-off between inflation and GDP. Franz (2005) showed a long-run inflation- unemployment trade-off for Germany. Most of the studies regarding the relationship between the two variables refer to develo- ped countries. The aim of this research is to study the existence of Philips curve and its stability in Romania. The rest of study is organized as it follows: after the literature review, the methodology is described and then the empirical results. Conclusions are drawn in last part of the study. 2. LITERATURE REVIEW The failure of Phillips relation in 1970s made Friedman (1968) to argue that the relation is valid only on short term. On long run the employees and the employers consider the inflation evolution in employment contracts that the salary increases at rates closed to anticipated inflation. 1 Institute for Economic Forecasting of the Romanian Academy, PhD Senior Researcher, Bucharest, Romania, mihaela_mb1@yahoo.com MONTENEGRIN JOURNAL OF ECONOMICS, Vol. 10, No. 1 (July 2014), 67-74