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The unemployment rate on the long-run Phillips curve will be the natural rate of unemployment. A small inflationary increase in the price level from AD 0 to AD 1 will have the same natural rate of unemployment as a larger inflationary increase in the price level from AD 0 to AD 2 . The macroeconomic equilibrium along the vertical aggregate supply curve can occur at a variety of different price levels, and the natural rate of unemployment can be consistent with all different rates of inflation. The great economist Milton Friedman (1912–2006) summed up the neoclassical view of the long-term Phillips curve tradeoff in a 1967 speech: “[T]here is always a temporary trade-off between inflation and unemployment; there is no permanent trade-off.”

In the Keynesian perspective, the primary focus is on getting the level of aggregate demand right in relationship to an upward-sloping aggregate supply curve. That is, AD should be adjusted so that the economy produces at its potential GDP, not so low that cyclical unemployment results and not so high that inflation results. In the neoclassical perspective, aggregate supply will determine output at potential GDP, unemployment is determined by the natural rate of unemployment churned out by the forces of supply and demand in the labor market, and shifts in aggregate demand are the primary determinant of changes in the price level.

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Fighting unemployment or inflation?

As explained in Unemployment , unemployment can be divided into two categories: cyclical unemployment    and the natural rate of unemployment    , which is the sum of frictional and structural unemployment. Cyclical unemployment results from fluctuations in the business cycle and is created when the economy is producing below potential GDP—giving potential employers less incentive to hire. When the economy is producing at potential GDP, cyclical unemployment will be zero. Because of the dynamics of the labor market, in which people are always entering or exiting the labor force, the unemployment rate never falls to 0%, not even when the economy is producing at or even slightly above potential GDP. Probably the best we can hope for is for the number of job vacancies to equal the number of job seekers. We know that it takes time for job seekers and employers to find each other, and this time is the cause of frictional unemployment. Most economists do not consider frictional unemployment to be a “bad” thing. After all, there will always be workers who are unemployed while looking for a job that is a better match for their skills. There will always be employers that have an open position, while looking for a worker that is a better match for the job. Ideally, these matches happen quickly, but even when the economy is very strong there will be some natural unemployment and this is what is measured by the natural rate of unemployment.

The neoclassical view of unemployment tends to focus attention away from the problem of cyclical unemployment—that is, unemployment caused by recession—while putting more attention on the issue of the rates of unemployment that prevail even when the economy is operating at potential GDP. To put it another way, the neoclassical view of unemployment tends to focus on how public policy can be adjusted to reduce the natural rate of unemployment. Such policy changes might involve redesigning unemployment and welfare programs so that they support those in need, but also offer greater encouragement for job-hunting. It might involve redesigning business rules with an eye to whether they are unintentionally discouraging businesses from taking on new employees. It might involve building institutions to improve the flow of information about jobs and the mobility of workers, to help bring workers and employers together more quickly. For those workers who find that their skills are permanently no longer in demand (for example, the structurally unemployed), policy can be designed to provide opportunities for retraining so that these workers can reenter the labor force and seek employment.

Questions & Answers

WHY DEVELOP COUNTRIES RELY ON DEVELOPED COUNTRIES?
Ben Reply
what is the determination of aggregate demand?
Maddy Reply
classical dichotomy and its components?
Romaisa Reply
what will happen to the demand curve when there is an inflation in an economy
Hamza Reply
From my view, I think the demand curve will shift inwards.
Bobo
now it depends on what kind of inflation it is, depending on the type of inflation the movement of the demand curve can be stated.
Munimu
yes it depends on the cause for inflation. if it caused by maybe an increase in money supply, the effect is neutral in the long term, therefore there are no effects on total output in the economy, except for an increase in price
Lucas
but short term in general i think you could expect the demand curve to shift inwards as consumers experience a decrease in real income
Lucas
source of capital for the sole trader
Dogbey Reply
borrowing from relatives, government grants, bank loans, personal savings, credit card etc.
Munimu
Suppose you are holding 2000 in a checking account and the price level decrease by 20 %how much it will affect your purchasing power and why
Iqra Reply
Hi Iqra, will answer your question soon.
Aleem
2000*0.2= 400 2000-400= 1600
Munimu
1600
Munimu
a price level decrease is deflation. it means you'll be able to afford to buy more with your 2000 and your real income becomes 2000÷(100-20)=2500
Lucas
the amount will decrease to 1600 and you can't be able to buy over this amount
Agogo
As an economist student discuss how the pandemic covid19 can affect the aggregate demand and aggregate supply thereby leading to decrease in GDP and standard of living of citizens of nigeria
Fadila Reply
hi how can you help me?
qusai Reply
can you send me the notes
Mohd
hello is what are you talking about?
Mousa
unemployment and low inflation    .
Abdirizaq Reply
Structure/Organization Of The Federal Reserve
Abdirizaq
sorry guys in macroeconomics what is different between inflation and intrest rate? please example for pandemic related maybe?
Siyanda
hello
Ramu
Is this Aap for class 11 and 12 only not for graduation?
ankit Reply
yeah like for du MA entrance
VAISHALI
okay
ankit
Aree i m also asking
VAISHALI
for du MA entrance. u shouldn't rely on app. Go for SAURABH SIR notes. available on flipkart.
Saurabh
ohh thanks
VAISHALI
pleasure
Saurabh
ooh
ankit
what is inflation
Bright Reply
hike in price
shola
situation of rise in price with the fall in purchasing power of money
Almina
cycle of corruption
Omkar
rise in price of a Nation economy in terms of trade
adebiyi
what is distruptive international trade?
NOEL
meaning of inflation
Jayakumar Reply
increase in general prices level in an economy.
Tayyab
increase in general price level
Abu
The fall in standard of living because goods and services become expensive.
NOEL
what is value added and how is it used in calculating GDP
Benedicta Reply
value added is final price of output minus cost of production. For example, let's say you make a shirt with raw materials that cost $20, and then sell the shirt for $35 added value would be 35-20=15. In calculating GDP, it is used to avoid double counting goods. Exp. eggs individually and in bread.
julian
as the price of tickets rises from $200 to $250, what is the price elasticity of demand for business travelers, vacationers using midpoint method
Buumba Reply
$300
Jb
@jb how do uget $300
Jeff
It means you are measuring the cost against availability.
Muyiwa
Explain how income taxes and transfer payments are used to stabilize the economy
Nakagwa Reply
reduce demand on scarce resources by reducing money supply.
NOEL

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Source:  OpenStax, Macroeconomics. OpenStax CNX. Jun 16, 2014 Download for free at http://legacy.cnx.org/content/col11626/1.10
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