Chapter 10: The / Phillips Curve 10-1: Inflation, Expected Inflation and Unemployment s10-2: The Phillips Curve 9 10-3: A Summary and many Warnings 2003-7-20
2003-7-20 1 Chapter 10: The Phillips Curve 10-1: Inflation, Expected Inflation, and Unemployment 10-2: The Phillips Curve 10-3: A Summary and many Warnings
10-1: Inflation, Expected Inflation and Unemployment e We have already known the function in chapter 9 Pt= Pt(1+p)F(ut, z) e It will be convenient here to assume a specific form for the function F F(u1,2)=1-au+z e Replacing in the earlier equation gives t=Pe(1+p)(1-ut+2) 心 To continue 2003-7-20
2003-7-20 2 10-1: Inflation, Expected Inflation, and Unemployment We have already known the function in chapter 9: Pt = Pt e (1+μ) F (ut , z) It will be convenient here to assume a specific form for the function F: F (ut , z)= 1 - αut + z Replacing in the earlier equation gives: Pt = Pt e (1+μ)(1 - αut + z) To continue
e With a few manipulation, this relation can be rewritten as a relation between the inflation rate, the expected inflation rate, and the unemployment rate e+(u+z)-au 10.1) Where J. denotes the inflation rate and e denotes the corresponding expected inflation rate e In short, equation(10. 1) tells us Higher expected inflation leads to higher inflation Given expected inflation, the higher the markup chosen by firms, u, or the higher the factors that affect wage determination, Z, the higher inflation Given expected inflation, the higher unemployment, the lower inflation 2003-7-20 3
2003-7-20 3 With a few manipulation, this relation can be rewritten as a relation between the inflation rate, the expected inflation rate, and the unemployment rate πt =πt e + (μ+z) - αut (10.1) Where πt denotes the inflation rate, and πt e denotes the corresponding expected inflation rate. In short, equation (10.1) tells us: ⚫ Higher expected inflation leads to higher inflation ⚫ Given expected inflation, the higher the markup chosen by firms, μ, or the higher the factors that affect wage determination, z, the higher inflation. ⚫ Given expected inflation, the higher unemployment, the lower inflation
10-2: The phillips curve The early Incarnation ● Mutations e Back to the natural rate of unemployment 2003-7-20
2003-7-20 4 10-2: The Phillips Curve The Early Incarnation Mutations Back to the Natural Rate of Unemployment
The Early Incarnation e Think of an economy where inflation on average equals to zero, it is reasonable for people to expect that inflation rate will be equal to zero over the next year as well Assuming that j t=0 in equation(10. 1), then J t =(u+z)-au (102) e This is precisely the negative relation between unemployment and inflation The story behind it is simple Given expected prices, lower unemployment leads to higher nominal wages Higher nominal wages lead to higher prices 2003-7-20 5
2003-7-20 5 The Early Incarnation Think of an economy where inflation on average equals to zero, it is reasonable for people to expect that inflation rate will be equal to zero over the next year as well. Assuming that πt e =0 in equation (10.1), then πt = (μ+z) - αut (10.2) This is precisely the negative relation between unemployment and inflation. The story behind it is simple:Given expected prices, lower unemployment leads to higher nominal wages. Higher nominal wages lead to higher prices