Exam 35: The Short-Run Trade-Off Between Inflation and Unemployment

A typical estimate of the sacrifice ratio is five. According to Sargent, the sacrifice ratio could be much smaller than suggested by previous estimates.

Suppose a country is experiencing a hyperinflation. Even a small sacrifice ratio would suggest that it would be incredibly costly for such a country to eliminate inflation. For example, suppose the sacrifice ratio is one, but inflation is running at 5000 per cent per year. Then the sacrifice ratio suggests that it would cost 50 years worth of output to get inflation to zero! This is obviously not right. Why does the sacrifice ratio not provide a good way of measuring the cost of ending a hyperinflation?

If the sacrifice ratio is 6 per cent, then reducing the inflation rate from 10 per cent to 4 per cent would require sacrificing _____ per cent of annual output.

If decreases in money supply or cuts in government contract aggregate demand, they can lower inflation in the short run, but only at the expense of higher unemployment.

If a hurricane hit an oil refinery and drove up the oil price, what would be the effect on the short-run trade-off between inflation and unemployment?

According to rational expectations theory, a credible commitment to low inflation increases the cost of disinflation, because people are rational.

If the long-run Phillips curve shifts to the right, the economy will have _____ for any given rate of money growth and inflation.

Friedman and Phelps argued:

Faced with an adverse supply shock, the economy experiences an aggregate-supply curve shift to the:

The increase in oil prices in the 2000s was caused primarily by:

Most economists believe that: Most economists believe that:

The Phillips curve is:

At points along the long-run Phillips curve:

Contractionary monetary policy contracts aggregate demand, reduces employment and inflation, and eventually reduces expected inflation, causing the short-run Phillips curve to shift downwards.

What is the lesser of two evils - high unemployment or high inflation? Do policy makers have to make this choice all the time? If so, what is the correct choice, according to this chapter?

Proponents of rational expectations theory argue that the sacrifice ratio could be as small as:

The natural rate of unemployment is:

The sacrifice ratio is:

If macroeconomic policy expands aggregate demand, unemployment and inflation will both decline in the short run.

Samuelson and Solow reasoned that the trade-off between inflation and unemployment arose because low unemployment was associated with high aggregate demand, and because high demand puts upward pressure on wages and prices throughout the economy.