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Chapter 17: Q. 19 (page 396)

Consider panel (b) of Figure 17-4, and suppose that the economy initially operates at point A, at which the inflation rate is 0percent and the unemployment rate is 6percent, which is the natural rate of unemployment. Then the inflation rate decreases to -1 percent. Does additional cyclical, frictional, or structural unemployment account for the resulting rise in the unemployment rate at point C? Explain briefly.

Short Answer

Expert verified

Low (or negative) inflation rates tend to be amid high unemployment rates (as at C).

Step by step solution

01

Given Information

The economy initially operates at point A, at which the inflation rate is 0percent and the unemployment rate is 6percent, which is the natural rate of unemployment.

02

Explanation

  • If we glance at both increases and reduces in aggregate demand, we see that prime inflation rates tend to be related to low unemployment rates (as at B)
  • Which low (or negative) inflation rates tend to be amid high unemployment rates (as atC).

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Most popular questions from this chapter

Understand the rational expectations hypothesis and its policy implications.

According to the quantity equation, how else besides using interestrate-based policies might central banks be able to generate higher inflation if they really wished to do so?

People called "Fed watchers" earn their living by trying to forecast what policies the Federal Reserve will implement within the next few weeks and months. Suppose that Fed watchers discover that the current group of Fed officials is following very systematic and predictable policies intended to reduce the unemployment rate. The Fed watchers then sell this information to firms, unions, and others in the private sector. If pure competition prevails, prices and wages are flexible, and people form rational expectations, are the Fed's policies enacted after the information sale likely to have their intended effects on the unemployment rate?

Consider the diagram below, which is drawn under the assumption that the new Keynesian sticky-price theory of aggregate supply applies. Assume that at present, the economy is in long-run equilibrium at point A. Answer the following questions.

a. Suppose that there is a sudden increase in desired investment expenditures. Which of the alternative aggregate demand curves- AD2or AD3-will apply after this event occurs? Other things being equal, what will happen to the equilibrium price level and to equilibrium real GDP in the short ran? Explain.

b. Other things being equal, after the event and adjustments discussed in part (a) have taken place, what will happen to the equilibrium price level and to equilibrium real GDP in the long run? Explain.

Suppose that the government altered the computation of the unemployment rate by including people in the military as part of the labor force.

a. How would this affect the actual unemployment rate?

b. How would such a change affect estimates of the natural rate of unemployment?

c. If this computational change were made, would it in any way affect the logic of the short-run and long-run Phillips curve analysis and its implications for policy making? Why might the government wish to make such a change?
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