Suppose that the central bank in this economy is concerned that inflation is too high and wants to lower the inflation rate by 6 percentage points per year. A reduction in the rate of inflation is known as To reduce inflation from 8% to 2% in the short run, the central bank would have to accept an unemployment rate of % True or False: If people have rational expectations, the economy may not have to endure an unemployment rate as high as predicted by the short-run Phillips curve. True False

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Consider an economy for which wage and price inflation are initially 3% under a zero output gap. Calculate price inflation by the end of the current period under a new output gap of 6%. (Hint: you need to use the Phillips curve equation)

1. Aggregate demand, aggregate supply, and the Phillips curve In the year 2027, aggregate demand and aggregate supply in the imaginary country of Aso-Kuju are represented by the curves AD2027 and AS on the following graph. The price level is currently 102. The graph also shows two potential outcomes for 2028. The first possible aggregate demand curve is given by the curve labeled ADA curve, resulting in the outcome given by point A. The second possible aggregate demand curve is given by the curve labeled ADB, resulting in the outcome given by point B. PRICE LEVEL 108 107 106 105 104 103 102 101 100 0 AD 2027 2 4 B AS ADB ADA 8 10 6 OUTPUT (Trillions of dollars) 12 14 16 (?) Suppose the unemployment rate is 7% under one of these two outcomes and 5% under the other. Based on the previous graph, you would expect outcome B▼ to be associated with the lower unemployment rate (5%). If aggregate demand is high in 2028, and the economy is at outcome B, the inflation rate between 2027 and 2028…