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Any measure taken to change unemployment only results in an up-and-down movement of the economy along the line. 246 0 obj <> endobj Contrast it with the long-run Phillips curve (in red), which shows that over the long term, unemployment rate stays more or less steady regardless of inflation rate. Solved 4. Monetary policy and the Phillips curve The - Chegg This view was recorded in the January 2018 FOMC meeting minutes: A couple of participants questioned the usefulness of a Phillips Curve-type framework for policymaking, citing the limited ability of such frameworks to capture the relationship between economic activity and inflation. The Phillips curve shows that inflation and unemployment have an inverse relationship. The Short-run Phillips curve equation must hold for the unemployment and the When unemployment is above the natural rate, inflation will decelerate. The Phillips curve is named after economist A.W. The relationship between inflation rates and unemployment rates is inverse. Similarly, a reduced unemployment rate corresponds to increased inflation. CC LICENSED CONTENT, SPECIFIC ATTRIBUTION. 0000003740 00000 n Does it matter? 1. The Phillips curve shows the trade-off between inflation and unemployment, but how accurate is this relationship in the long run? The Phillips curve argues that unemployment and inflation are inversely related: as levels of unemployment decrease, inflation increases. A high aggregate demand experienced in the short term leads to a shift in the economy towards a new macroeconomic equilibrium with high prices and a high output level. PDF Econ 102 Homework #9 AD/AS and The Phillips Curve According to economists, there can be no trade-off between inflation and unemployment in the long run. The Phillips curve and aggregate demand share similar components. is there a relationship between changes in LRAS and LRPC? However, when governments attempted to use the Phillips curve to control unemployment and inflation, the relationship fell apart. In many models we have seen before, the pertinent point in a graph is always where two curves intersect. Assume the economy starts at point A and has an initial rate of unemployment and inflation rate. Because monetary policy acts with a lag, the Fed wants to know what inflation will be in the future, not just at any given moment. Because wages are the largest components of prices, inflation (rather than wage changes) could be inversely linked to unemployment.