Principles of Macroeconomics (MindTap Course List)
7th Edition
ISBN: 9781285165912
Author: N. Gregory Mankiw
Publisher: Cengage Learning
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Chapter 22, Problem 1PA
To determine
Illustration of actual and expected inflation on a Phillips curve .
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Suppose the natural rate of unemployment is 6%. On one graph, draw two Phillips curves that can be used to describe the four situations listed below. Label the point that shows the position of the economy in each case:
a. Actual inflation is 5% and expected inflation is 3%. (1%)
b. Actual inflation is 3% and expected inflation is 5%. (1%)
c. Actual inflation is 5% and expected inflation is 5%. (1%)
d. Actual inflation is 3% and expected inflation is 3%. (1%)
Suppose that an economy has the Phillips curve π = π−1 − 0.5( u − 0.06). a. What is the natural rate of unemployment? b. Graph the short-run and long-run relationships between inflation and unemployment. c. How much cyclical unemployment is necessary to reduce inflation by 5 percentage points? Using Okun’s law, compute the sacrifice ratio. d. Inflation is running at 10 percent. The Fed wants to reduce it to 5 percent. Give two scenarios that will achieve that goal.
1. An economy has the following equation for the Phillips Curve:
π = Eπ − 0.5(u − 6)People form expectations of inflation by taking a weighted average of the previous two years of inflation:
Okun’s law for this economy is:
Eπ = 0.7π−1 + 0.3π−2
(Y −Y−1)/(Y-1)=3.0−2.0(u−u−1)
Th economy begins at its natural rate of unemployment with a stable inflation rate of 5 percent.
Graph the short-run tradeoff between inflation and unemployment that this economy faces. Label the point where the economy begins as A. (Be sure to give numerical values for point A.)
A fall in aggregate demand leads to a recession, causing the unemployment rate to rise 4 percentage points above its natural rate. On your graph in part (b), label the point the economy experiences that year as point B.(Be sure to give numerical values.)
Unemployment remains at this high level for two years (the initial year described in part (c) and one more), after which it returns to its natural rate. Create a table showing…
Chapter 22 Solutions
Principles of Macroeconomics (MindTap Course List)
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- Suppose that the government in the economy of the diagram below regards 9 percent unemployment as unacceptable. If the government insists on reducing the unemployment rate from 9 percent to 7 percent, regardless of the consequences, thena. pressure will build in the economy to continuously reduce the rate of inflation.b. the long-run Phillips curve becomes horizontal, freezing the rates of inflation and unemployment.c. the inflation rate will increase but the unemployment rate will stay at 7 percent.d. in the long run the rate of unemployment remains unchanged, but inflation will likely accelerate. Give explanations for the correct onearrow_forwardWhat occurs when the natural unemployment rate increases? A. The short-run Phillips curve doesn't change and the long-run Phillips curve shifts rightward. B. The long-run Phillips curve doesn't change and the short-run Phillips curve shifts upward. C. The long-run and short-run Phillips curves shift rightward and the expected inflation rate rises. D. The long-run and short-run Phillips curves shift rightward and the expected inflation rate doesn't change. tha nksarrow_forward“The more people at work, the higher their bills” The Phillips Curve shows the correlation between unemployment and inflation.” In the light of this statement,(a) Draw the short-run trade-off between inflation and unemployment. How might the Central Bank move the economy from one point on this curve to another? (b) Draw the long-run trade-off between inflation and unemployment. Explain how the short-run and long-run trade-offs are related. (c) Illustrate the effects of the following developments on both the short-run and long-run Phillips curves. Give the economic reasoning underlying your answers.1. A rise in the natural rate of unemployment.2. A decline in the price of imported oil.arrow_forward
- Go to the website of Statistics Canada www statcan ca For each Go to the website of Statistics Canada (www.statcan.ca). For each of the past five years, find the inflation rate as measured by the consumer price index (all items)—sometimes called head-line inflation —and as measured by the CPI excluding food and energy—sometimes called core inflation. Compare these two measures of inflation. Why might they be different? What might the difference tell you about shifts in the aggregate supply curve and in the short-run Phillips curve? Go to the website of Statistics Canada www statcan ca For eacharrow_forwardIf the current inflation rate is 10% and you are asked to predict the cost of decreasing it to 3% next year. 1)Will it result deflation policy or a disinflation policy? Why? 2) Give an estimate of the cost in terms of output assuming the sacrifice ratio is 4 and explain the economic cost of reducing inflation by drawing the Phillips curve. 3) If an economist says computing the cost of this policy using the sacrifice ratio is not totally correct because people are rational and they will take the new policy into account when forming expectations about the future. Explain this statement and the reason behind it by showing what happens the Phillips curve 4)if people update their expectations about the future instantaneously. How costly would it be to reduce inflation if the adjustment in expectations occurs instantaneously?arrow_forwardWhat occurs when the natural unemployment rate increases? A. The short-run Phillips curve doesn't change and the long-run Phillips curve shifts rightward. B. The long-run Phillips curve doesn't change and the short-run Phillips curve shifts upward. C. The long-run and short-run Phillips curves shift rightward and the expected inflation rate rises. D. The long-run and short-run Phillips curves shift rightward and the expected inflation rate doesn't change.arrow_forward
- Assume that an economy is governed by the Phillips curve π= πe – 0.5(u – 0.06), where π= (P – P–1)/P–1, π e = (P e – P–1)/P–1, and 0.06 is the natural rate of unemployment. Further assume π e = π–1. Suppose that, in period zero, π= 0.03 and πe = 0.03—that is, that the economy is experiencing steady inflation at a 3-percent rate. a. Now assume that the government decides to impose whatever demand is necessary to cut unemployment to 0.04. Suppose the government follows this policy for periods 1 through 5. Create a table of π and πe for these five periods. b. Assume that, for periods 6 through 10, the government decides to hold unemployment at 0.06. Create another table of π and πe for these five periods. Is there any reason to expect the inflation rate to go back to 0.03? c. If the government persisted in its behavior under part a, do you think the public would continue for long forming expectations according to πe = π–1? Why?arrow_forwardDraw the Phillips curve.Use the model of aggregate demand and aggregate supply to show how policy can move the economy from a point on this curve with high inflation to a point with low inflationarrow_forward
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