Section A —Inflation. Phillips Curves & Aggregate SupplyAssume the government successfully...

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Section A —Inflation. Phillips Curves & Aggregate Supply
Assume the government successfully implements reform programmes that reduce the "natural" unemployment rate. At the same time, an independent central bank is running with an inflation target of 2% which it leaves unchanged in the wake of the government's supply-side initiative. Using Phillips Curve style diagrams (in aggregate supply (AS) curve format with real GDP on the horizontal axis and inflation on the vertical axis) briefly explain how inflation, output and unemployment might be impacted in both the short- and long-run. Include the corresponding short-run aggregate demand curves when illustrating the long equilibria for inflation and real GDP.

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David · Accepted Answer

Phillips curve equation is  
Π – Πe=-β(u-u*) 
So when natural unemployment rate falls, the difference between actual and expected inflation at every 
time period t falls. It means inflation is always lower than the expected level.

Section A —Inflation. Phillips Curves & Aggregate Supply Assume the government successfully implements reform programmes that reduce the "natural" unemployment rate. At the same time, an independent...

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