The Expectations-Augmented Phillips Curve Is

question 82

Essay

The expectations-augmented Phillips curve is
π = π^e - 2(u - 0.06).
(a)Graph the long-run Phillips curve and the short-run Phillips curve for an expected inflation rate of 0.04.If the Fed chooses to keep the actual inflation rate at 0.04,what will be the unemployment rate? Label the equilibrium point "A".What is the numerical value of the natural rate of unemployment?
(b)An aggregate demand shock (resulting from increased exports of goods)raises the inflation rate to 0.06 (the natural rate of unemployment and the expected inflation rate are not affected).Show what happens on your graph.Label the equilibrium point "B".What is the numerical value of the unemployment rate?
(c)In response to the aggregate demand shock,suppose the Fed allows the inflation rate of 0.06 to persist.Show what happens on your graph,labeling the equilibrium point "C".In the long run,what is the numerical value of the unemployment rate?
(d)From the situation in part (c),suppose a supply shock raises the natural rate of unemployment by .01 from its original value.If both the inflation rate and the expected inflation rate do not change,show what happens in your graph,labeling the equilibrium point "D".What is the numerical value of the unemployment rate?

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Definitions:

Back Orders

Orders for products that cannot be filled at the current time due to lack of stock, and are therefore delayed until the stock is replenished.

Overtime Cost

The additional expense incurred by employers for work performed by employees beyond their normal working hours, often at a higher pay rate.

Holding Costs

The expenses associated with storing unsold goods or materials, including warehousing, security, and insurance costs.

Aggregate Plan

A production planning strategy that determines the necessary resource capacity to meet expected demand over an intermediate time frame, typically ranging from a few months to a year.