Unemployment-Inflation

Question 1

Philips curve

Answer 1

Shows inverse correlation between unemployment and inflation

Question 2

Expectations augmented Philips curve

Answer 2

Philips curve with expectations
Multiple possible curves
The vertical distance between the curves is the expectation and exogenous variables

Question 3

Expectations augmented Philips curve equation

Answer 3

π=f(1/u)+π^e+K
π - inflation
u - unemployment
π^e - Expected rate of inflation
K - Exogenous cost pressures on inflation

Question 4

Adaptive expectations

Answer 4

Individuals adjust their expectations of inflation based on previous inflation

Question 5

Rational expectations

Answer 5

Individuals base expectations on current information and various economic indicators.
Whilst this information and their judgement may be imperfect, random predictions between individuals will cancel out the variation

Question 6

Variation in the SR and LR Philips curve

Answer 6

In the SR higher AD will increase its potential level, reducing unemployment and increasing inflation
In the LR higher AD is fully absorbed by higher inflation
The LR curve is perfectly inelastic: Vertical

Question 7

Natural rate of unemployment

Answer 7

Rate of unemployment consistent with market clearing; unemployment at LR equilibrium

Question 8

Natural rate hypothesis

Answer 8

Following fluctuations in AD, unemployment will return to a natural rate. This rate is determined by supply side factors

Question 9

Fooling model

Answer 9

Workers equate an increase in nominal wages as an increase in real wages
LR: Believing they are better individuals, workers will increase their hours, leading to an increase in AS, hence unemployment will decrease and inflation increase. This will led to a shift in expectations

Question 10

Acceleration theory

Answer 10

Unemployment can only be reduced below the natural rate only at the cost of accelerating inflation
An increase in AD will led to an increase in inflation. This will led to an increase in the future expectation of inflation, resulting in a right shift of the Philips curve. If the government now seeks to reduce unemployment, they will need a larger injection to achieve the same results.