non-accelerating inflation rate of unemployment

Examples of non-accelerating inflation rate of unemployment in the following topics:

• The Long-Run Phillips Curve

  • The natural rate of unemployment theory, also known as the non-accelerating inflation rate of unemployment (NAIRU) theory, was developed by economists Milton Friedman and Edmund Phelps.
  • Moreover, when unemployment is below the natural rate, inflation will accelerate.
  • When the unemployment rate is equal to the natural rate, inflation is stable, or non-accelerating.
  • Assume the economy starts at point A and has an initial rate of unemployment and inflation rate.
  • The unemployment rate cannot fall below the natural rate of unemployment, or NAIRU, without increasing inflation in the long run.

• A New Economy?

  • One approach is to compare the actual and potential growth rates of the economy.
  • The second gauge is called NAIRU, or the non-accelerating inflation rate of unemployment.
  • Over time, economists have noted that inflation tends to accelerate when joblessness drops below a certain level.
  • Information technologies also allowed for quicker delivery times, and they accelerated and streamlined the process of innovation.
  • After rising at less than a 1 percent annual rate in the early part of the decade, productivity was growing at about a 3 percent rate toward the end of the 1990s -- well ahead of what economists had expected.

• Employment Levels

  • Full employment, in macroeconomics, is the level of employment rates when there is no cyclical unemployment.
  • It is defined by the majority of mainstream economists as being an acceptable level of natural unemployment above 0%, the discrepancy from 0% being due to non-cyclical types of unemployment.
  • Unemployment above 0% is advocated as necessary to control inflation, which has brought about the concept of the Non-Accelerating Inflation Rate of Unemployment (NAIRU).
  • Instead, there is a trade-off between unemployment and inflation: a government might choose to attain a lower unemployment rate but would pay for it with higher inflation rates.
  • Frictional unemployment is always present in an economy, so the level of involuntary unemployment is properly the unemployment rate minus the rate of frictional unemployment.

• Defining Full Employment

  • In macroeconomics, full employment is the level of employment rates where there is no cyclical or deficient-demand unemployment.
  • Full employment represents a range of possible unemployment rates based on the country, time period, and political biases .
  • The full employment unemployment rate is also referred to as "natural" unemployment.
  • In an effort to avoid this normative connotation, James Tobin introduced the term "Non-Accelerating Inflation Rate of Unemployment" also known as the NAIRU.
  • The NAIRU has been called the "inflation threshold. " The NAIRU states the inflation does not rise or fall when unemployment equals the natural rate.

• The Short-Run Phillips Curve

  • The Phillips curve depicts the relationship between inflation and unemployment rates.
  • As unemployment rates increase, inflation decreases; as unemployment rates decrease, inflation increases.
  • When the unemployment rate is 2%, the corresponding inflation rate is 10%.
  • As unemployment decreases to 1%, the inflation rate increases to 15%.
  • Contrast it with the long-run Phillips curve (in red), which shows that over the long term, unemployment rate stays more or less steady regardless of inflation rate.

• The Phillips Curve

  • The Phillips curve relates the rate of inflation with the rate of unemployment.
  • The Phillips curve argues that unemployment and inflation are inversely related: as levels of unemployment decrease, inflation increases.
  • Graphically, the short-run Phillips curve traces an L-shape when the unemployment rate is on the x-axis and the inflation rate is on the y-axis .
  • For many years, both the rate of inflation and the rate of unemployment were higher than the Phillips curve would have predicted, a phenomenon known as "stagflation. " Ultimately, the Phillips curve was proved to be unstable, and therefore, not usable for policy purposes .
  • In this image, an economy can either experience 3% unemployment at the cost of 6% of inflation, or increase unemployment to 5% to bring down the inflation levels to 2%.

• Relationship Between Expectations and Inflation

  • Assume the economy starts at point A at the natural rate of unemployment with an initial inflation rate of 2%, which has been constant for the past few years.
  • Now assume that the government wants to lower the unemployment rate.
  • In the short run, it is possible to lower unemployment at the cost of higher inflation, but, eventually, worker expectations will catch up, and the economy will correct itself to the natural rate of unemployment with higher inflation.
  • Assume the economy starts at point A, with an initial inflation rate of 2% and the natural rate of unemployment.
  • However, eventually, the economy will move back to the natural rate of unemployment at point C, which produces a net effect of only increasing the inflation rate.According to rational expectations theory, policies designed to lower unemployment will move the economy directly from point A to point C.

• The Relationship Between the Phillips Curve and AD-AD

  • The Phillips curve shows the inverse trade-off between rates of inflation and rates of unemployment.
  • If unemployment is high, inflation will be low; if unemployment is low, inflation will be high.
  • The Phillips curve is the relationship between inflation, which affects the price level aspect of aggregate demand, and unemployment, which is dependent on the real output portion of aggregate demand.
  • At the initial equilibrium point A in the aggregate demand and supply graph, there is a corresponding inflation rate and unemployment rate represented by point A in the Phillips curve graph.
  • This translates to corresponding movements along the Phillips curve as inflation increases and unemployment decreases.

• Using Monetary Policy to Target Inflation

  • Inflation targeting is an economic policy in which a central bank estimates and makes public a projected, or "target", inflation rate and then attempts to steer actual inflation towards the target through the use of interest rate changes and other monetary tools .
  • Because interest rates and the inflation rate tend to be inversely related, the likely moves of the central bank to raise or lower interest rates become more transparent under the policy of inflation targeting.
  • if inflation appears to be above the target, the bank is likely to raise interest rates.
  • This usually has the effect over time of accelerating the economy and raising inflation.
  • Assess the use of inflation targets and goals in monetary policy

• Years of Change: The 1960s and 1970s

  • But by the end of the 1960s, the government's failure to raise taxes to pay for these efforts led to accelerating inflation, which eroded this prosperity.
  • Even after the embargo ended, energy prices stayed high, adding to inflation and eventually causing rising rates of unemployment.
  • The term "stagflation" -- an economic condition of both continuing inflation and stagnant business activity, together with an increasing unemployment rate -- described the new economic malaise.
  • With energy costs and interest rates high, business investment languished and unemployment rose to uncomfortable levels.
  • By refusing to supply all the money an inflation-ravaged economy wanted, the Fed caused interest rates to rise.