Econ 31402
Fall 2009
Handout #9 Answer Key
1.
(Question Three from Abel et.al., Chapter 12, numerical problems)
(a)
= 0
:
10
2(
u
&
0
:
06) = 0
:
22
2
u
This is shown as the Phillips curve labeled
PC
a
If the Fed keeps in±ation at
0
:
10
, then the natural rate of unemployment will be
u
= 0
:
06
.
(b) With expected in±ation rising to
12%
, the Phillips curve is:
= 0
:
12
2(
u
&
0
:
06) = 0
:
24
2
u
.
This is the Phillips curve labeled
PC
b
The higher rate of expected in±ation has caused the curve to shift up relative to
where it was in Part
(
a
)
.
With the actual in±ation rate at
10%
, the Phillips curve equation is
0
:
10 = 0
:
12
2(
u
&
0
:
06)
, which has the solution
u
= 0
:
07
.
So if the Fed tries to maintain the existing rate of in±ation after a shock has raised
in±ation expectations, the unemployment rate increases.
However, if the Fed could convince people that the in±ation rate really would not
rise, so that
e
remains at
0
:
10
, then the shortrun Phillips curve would remain
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 Spring '07
 MBIEKOP
 Economics, Macroeconomics, Phillips Curve, Unemployment, Natural rate of unemployment, in‡ ation

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