Econ322: 03
Instructor: Noha Emara
Assignment 1
Due September 19, 2008
1)
The expectations augmented Phillips curve postulates
P
p
=
Δ
–
f
(
u
–
u
),
where
P
p
is the actual inflation rate,
Δ
is the expected inflation rate, and
u
is the
unemployment rate, with "–" indicating equilibrium (the NAIRU – Non

Accelerating
Inflation Rate of Unemployment). Under the assumption of static expectations (
Δ
=
P
p
–1
),
i.e., that you expect this period’s inflation rate to hold for the next period ("the sun shines
today, it will shine tomorrow"), then the prediction is that inflation will accelerate if the
unemployment rate is below its equilibrium level. The accompanying
table below displays
information on accelerating annual inflation and unemployment rate differences from the
equilibrium rate (cyclical unemployment), where the latter is approximated by a five

year
moving average. You think of this data as a population which you want to describe, rather
than a sample from which you want to infer behavior of a larger population. The data is
collected from United States quarterly data for the period 1964:1 to 1995:4.
Joint Distribution of Accelerating Inflation and Cyclical Unemployment,
1964:1

1995:4
(
u
–
u
)
>
0
(
Y
=
0)
(
u
–
u
)
L
0
(
Y
=
1)
Total
P
p–
P
p
–1
>
0 (
X
=
0)
0.156
0.383
0.539
P
p–
P
p
–1
K
0 (
X
=
1)
0.297
0.164
0.461
Total
0.453
0.547
1.00
(a) Compute
E
(
Y
) and
E
(
X
), and interpret both numbers.
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 Spring '07
 Francisco
 Inflation, Phillips Curve, Unemployment, NAIRU, Work File

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