The hypothesis of inflation-unemployment trade-off, Microeconomics

The Hypothesis of Inflation-Unemployment Trade-off:

This hypothesis about formation of expectations is therefore known as the hypothesis of adaptive expectations. The hypothesis implies that if the actual rate of inflation is always greater than the expected rate, then the expected rate would be rising overtime. Therefore, in order to maintain a constant rate of unemployment lower than the natural rate, the actual rate of inflation must be rising overtime. Otherwise, the difference between the expected real wage rate of workers and the actual real wage rate (expected by firms) would be falling in the economy.

1859_The Hypothesis of Inflation-Unemployment Trade-off.png

Since ω'/ω> 1, the coefficient of Φe(t) in the above first-order difference equation is greater than one and the constant term on the right hand side is positive.

The stable relation between inflation and unemployment suggested by the Phillips curve is therefore illusory. The same rate of unemployment, if lower than the natural rate, would be associated with increasing rates of inflation over time. Similarly, it can be shown that a rate of unemployment greater than the natural rate; must, in the above case be associated with an increasing rate of deflation over time. The only rate of unemployment which can be maintained in the long run with a constant rate of inflation is the natural rate, where the actual rate of inflation is equal to the rate historically expected by workers. Thus, it follows that there exists no policy trade-off between inflation and unemployment in the sense that a permanently lower rate of unemployment can be established through policy at the expense of a permanent but fixed increase in Rational Expectations and the rate of inflation in the economy. 

 

 

 

 

Posted Date: 11/21/2012 7:16:00 AM | Location : United States







Related Discussions:- The hypothesis of inflation-unemployment trade-off, Assignment Help, Ask Question on The hypothesis of inflation-unemployment trade-off, Get Answer, Expert's Help, The hypothesis of inflation-unemployment trade-off Discussions

Write discussion on The hypothesis of inflation-unemployment trade-off
Your posts are moderated
Related Questions
regression line drawn as Y=c+1075x, when x was 2 and y was 239, given that y intercept was 11. calculate the residual

Price/Earnings (P/E) Ratio This is a measure of an organization investment potential. Literally, a P/E ratio is how much a share is worth per dollar of earnings. The price-earn

Consumers purchase a house or multiple dwellings for a number of reasons. But what is the rationale behind their decision to buy and/or sell a house, flat or apartment? Do consumer

Jane receives utility from days spent travelling on vacation domestically(D) and days

criticism of cournot model

Marginal revenue: Marginal revenue is the change in total revenue with respect to a change in quantity sold. That is, it is the change in total revenue that results from the s

Uses and Habit Forming Commodity -price elasticity of demand: The number of possible uses : A commodity has high price elasticity of demand (or elastic demand) if it can be p

Output 0 Fixed cost $100 Varaible Cost 40 what is the Total cost and Total revenue also the Profit/Loss

What is a negative externality?

What is meant by dumping? Dumping is when a producing country dumps goods on foreign markets at a price lower than either the price on the home market or below the cost (HL: ma