PROBLEM ON

WAGES, PRICES AND UNEMPLOYMENT:

THE PHILLIPS CURVE

An econometric analysis of the Kazakhstan economy found that in the recent past there was a stable relationship between inflation and unemployment that could be described by the following equation:

INFLATION RATE = [ 12 / UNEMPLOYMENT RATE ] - 2

That analysis also determined that the natural rate of unemployment was 4%.


I. Fill out the table below and plot the short-run Phillips curve and label it SRPC1. Plot the long-run Phillips Curve and label it LRPC1. Also show the expected rate of inflation and label it EIR1. (Be sure to label the axes of your graph).


UNEMPLOYMENT RATE INFLATION RATE
(percent) (percent)

1
2
3
4
5
6 ________________________




II. Fill out the table below on the assumption that the expected rate of inflation has increased to 4% per year. Plot the previous short-run Phillips curve and label it SRPC1. Plot the current Phillips Curve and label it SRPC2. Plot the long-run Phillips curve and label it LRPC2. (Be sure to label the axes of your graph).


UNEMPLOYMENT RATE INFLATION RATE
(percent) (percent)

1
2
3
4
5
6 ________________________

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III. Fill out the table below on the assumption that the expected rate of inflation remains at 4% per year and that the natural rate of unemployment increased to 6%. Plot the previous short-run Phillips curve and label it SRPC2. Plot the current Phillips Curve and label it SRPC3. Plot the previous long-run Phillips curve and label it LRPC2. Plot the current long-run Phillps curve and label it LRPC3. (Be sure to label the axes of your graph).


UNEMPLOYMENT RATE INFLATION RATE
(percent) (percent)

3
4
5
6
7
8 ________________________





IV. QUESTIONS


A. If the natural rate of unemployment is 4%, and the expected rate of inflation is 1%, what will be the rate of unemployment if the actual inflation rate is 2% ? ________________________________

B. If the natural rate of unemployment is 4%, and the expected rate of inflation is 4%, what will be the rate of unemployment if the actual inflation rate is 3% ? ________________________________

C. If the natural rate of unemployment is 6%, and the expected rate of inflation is 4%, what will be the rate of unemployment if the actual inflation rate is 5% ? ________________________________

D. What could have caused the increase in the expected rate of inflation?

E. What could have caused the increase in the natural rate of unemployment?

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