Phillips Curve: It represents the relationship between unemployment and inflation. The tradeoff between inflation and unemployment only occurs in the short run.
Long-Run Phillips Curve: occurs at the natural rate of unemployment (4-5%). If the natural rate of unemployment changes, the LRPC changes.
- represented by a vertical line
- there is no tradeoff between unemployment and inflation in the long run. The economy produces at a full employment level.
- LRPC will only shift if the LRAS curve shifts. Otherwise, it is assumed to be stable.
- The major LRPC assumption is that more worker benefits create higher natural rates and fewer worker benefits create lower natural rates
NRU = Seasonal + Frictional + Structural
Short-Run Phillips Curve
- There is an inverse relationship between inflation and unemployment.
- It has a relevance to Okun's Law.
- Since wages are sticky, inflation changes move the points on the SRPC.
- If inflation persists and the expected rate of inflation rises, then the entire SRPC moves upward, which causes stagflation.
- If inflation expectations drop due to new technology or economic growth, then the SRPC will move downward.
- Aggregate supply shocks can cause both higher rates of inflation and higher rates of unemployment.
- Supply shocks are rapid and significant increases in resource cost.
- Misery Index: the combination of unemployment and inflation in any given year. Single digit misery is good.
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