Economics

The Short-Run Tradeoff between Inflation and Unemployment

Chapter 33

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Unemployment and Inflation

u The

natural rate of unemployment depends on various features of the labor market. u Examples include minimum-wage laws, the market power of unions, the role of efficiency wages, and the effectiveness of job search.

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Unemployment and Inflation

u The

inflation rate depends primarily on growth in the quantity of money, controlled by the Fed. u The misery index, one measure of the “health” of the economy, adds together the inflation rate and unemployment rate.

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1

Unemployment and Inflation

Society faces a short-run tradeoff between unemployment and inflation. u If policymakers expand aggregate demand, they can lower unemployment, but only at the cost of higher inflation. u If they contract aggregate demand, they can lower inflation, but at the cost of temporarily higher unemployment.

u

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The Phillips Curve

The Phillips curve illustrates the short-run relationship between inflation and unemployment.

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The Phillips Curve...

Inflation Rate (percent per year) 6 B

2

A Phillips curve

0

4

7

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Unemployment Rate (percent)

2

Aggregate Demand, Aggregate Supply, and the Phillips Curve

u

The Phillips curve shows the short-run combinations of unemployment and inflation that arise as shifts in the aggregate demand curve...