The Phillips Curve - AP Macroeconomics

1. If unemployment is below $u_n$, what happens to inflation over time as expectations adjust?

   Inflation tends to rise; SRPC shifts up until unemployment returns to $u_n$. Tight labor markets drive wages and prices up, shifting SRPC upward.

2. What are the axes on a standard Phillips curve graph?

   Vertical: inflation rate; Horizontal: unemployment rate. Inflation on vertical shows price level changes; unemployment on horizontal shows joblessness.

3. Identify the policy type most associated with moving along a given SRPC.

   Demand-side policy (fiscal or monetary) changing aggregate demand. AD shifts cause movements along SRPC, not shifts of the curve.

4. What does the long-run Phillips curve (LRPC) indicate about unemployment in the long run?

   Unemployment returns to the natural rate regardless of inflation. In the long run, the economy adjusts and unemployment always returns to $u_n$.

5. Which factor primarily shifts the short-run Phillips curve: expected inflation or actual inflation?

   Expected inflation. Expectations drive wage demands, shifting the entire curve.

6. If expansionary policy lowers unemployment in the short run, what happens to inflation in the short run?

   Inflation rises as the economy moves up along the SRPC. Moving left and up along SRPC shows the inflation-unemployment trade-off.

7. What is the key policy implication of the vertical LRPC at $u_n$?

   No long-run tradeoff: policy cannot permanently lower $u$ below $u_n$. Monetary policy affects inflation but not long-run unemployment.

8. Identify the SRPC shift from a favorable supply shock (for example, productivity jump).

   SRPC shifts down (lower inflation at each unemployment rate). Lower costs reduce inflation at every unemployment level.

9. What is expected inflation, $\pi^e$, in the expectations-augmented Phillips curve?

   The inflation rate that workers and firms anticipate. Built into wage contracts and pricing decisions.

10. If $u<u_n$ and $v=0$, what does $\pi=\pi^e-\beta(u-u_n)+v$ imply about $\pi$ relative to $\pi^e$?

    $\pi>\pi^e$. Low unemployment creates upward pressure on wages and prices.

11. In $\pi=\pi^e-\beta(u-u_n)+v$, what does $\beta>0$ represent?

    The sensitivity of inflation to the unemployment gap, $(u-u_n)$. Higher $\beta$ means inflation responds more to unemployment changes.

12. If unemployment is above $u_n$, what happens to inflation over time as expectations adjust?

    Inflation tends to fall; SRPC shifts down until unemployment returns to $u_n$. Slack labor markets reduce wage pressure, shifting SRPC downward.

13. Identify the point on the Phillips curve graph where $u=u_n$ in the long run.

    The economy is on the LRPC at $u=u_n$. LRPC intersects all SRPCs at natural rate.

14. If $u>u_n$ and $v=0$, what does $\pi=\pi^e-\beta(u-u_n)+v$ imply about $\pi$ relative to $\pi^e$?

    $\pi<\pi^e$. High unemployment creates downward pressure on wages and prices.

15. What does the long-run Phillips curve (LRPC) imply about inflation and unemployment?

    No long-run trade-off; unemployment returns to the natural rate. In the long run, only the natural rate persists regardless of inflation.

16. What happens to the SRPC when expected inflation $\pi^e$ rises?

    SRPC shifts upward (higher inflation at each unemployment rate). Higher expectations become self-fulfilling through wage-price spiral.

17. What combination of outcomes is called stagflation on the Phillips curve?

    Higher inflation and higher unemployment. Both rise together, typically from adverse supply shocks.

18. What is the natural rate of unemployment, $u_n$, in the Phillips curve model?

    Unemployment when the economy is at potential output. This rate includes frictional and structural unemployment only.

19. What is the difference between demand-pull inflation and cost-push inflation on the Phillips curve?

    Demand-pull moves along SRPC; cost-push shifts SRPC left/up. Demand-pull: movement along curve; cost-push: entire curve shifts.

20. In $\pi=\pi^e-\beta(u-u_n)+v$, what does $v$ represent?

    A supply shock term that shifts the SRPC. Captures oil shocks, productivity changes, or other cost shifts.

21. Identify the SRPC shift from an adverse supply shock (for example, oil price spike).

    SRPC shifts up (higher inflation at each unemployment rate). Higher costs push inflation up at every unemployment level.

22. What does the short-run Phillips curve (SRPC) show about inflation and unemployment?

    A short-run inverse relationship between inflation and unemployment. As inflation rises, unemployment falls in the short run due to sticky wages.

23. What does the short-run Phillips curve show about inflation and unemployment?

    A short-run inverse relationship between inflation and unemployment. Trade-off exists only temporarily; policies can exploit this in the short run.

24. State the expectations-augmented Phillips curve equation using $\pi$, $\pi^e$, $u$, $u_n$, and $v$.

    $\pi=\pi^e-\beta(u-u_n)+v$. Shows how actual inflation depends on expectations, unemployment gap, and shocks.

25. If policymakers push $u$ below $u_n$ repeatedly, what happens to $\pi^e$ over time?

    $\pi^e$ rises, shifting SRPC upward until $u$ returns to $u_n$. Workers adapt expectations to persistent inflation, neutralizing policy.

26. What is the shape of the long-run Phillips curve (LRPC)?

    Vertical line at the natural rate of unemployment, $u_n$. Vertical because changing inflation doesn't affect long-run unemployment.

27. Identify the direction of the SRPC shift if expected inflation falls.

    SRPC shifts down (and typically to the left). Lower expected inflation allows lower actual inflation at each unemployment level.

28. What is a supply shock in the Phillips curve context?

    An event that changes production costs and shifts SRAS and SRPC. Supply shocks affect both price levels and output simultaneously.

29. If $u=u_n$ and $v=0$, what does $\pi=\pi^e-\beta(u-u_n)+v$ imply about inflation?

    $\pi=\pi^e$. At natural rate with no shocks, actual equals expected inflation.

30. What term describes unemployment at $u_n$ on the LRPC?

    Non-accelerating inflation rate of unemployment (NAIRU). At NAIRU, inflation neither accelerates nor decelerates.

31. If contractionary policy lowers inflation in the short run, what happens to unemployment in the short run?

    Unemployment rises as the economy moves down along the SRPC. Moving right and down along SRPC shows the trade-off working in reverse.

32. If $v>0$ in $\pi=\pi^e-\beta(u-u_n)+v$, how does inflation change, holding $u$ and $\pi^e$ fixed?

    $\pi$ increases (SRPC shifts left/up). Positive supply shock directly raises inflation.

33. Which direction does the SRPC shift after an adverse supply shock that raises production costs?

    Leftward (higher inflation at each unemployment rate). Higher costs raise inflation at every unemployment level.

34. What happens to the SRPC when expected inflation $\pi^e$ falls?

    SRPC shifts downward (lower inflation at each unemployment rate). Lower expectations reduce wage demands and price increases.

35. Which direction does the SRPC shift after a favorable supply shock that lowers production costs?

    Rightward (lower inflation at each unemployment rate). Lower costs reduce inflation at every unemployment level.

36. What is the typical shape of the LRPC on an inflation-unemployment graph?

    A vertical line at the natural rate of unemployment, $u_n$. Vertical because unemployment is fixed at $u_n$ regardless of inflation level.

37. What is the natural rate of unemployment, $u_n$, in the Phillips curve model?

    The long-run equilibrium unemployment rate (structural + frictional). Excludes cyclical unemployment; only unavoidable job search and mismatch.

38. Identify the direction of the SRPC shift if expected inflation rises.

    SRPC shifts up (and typically to the right). Higher expected inflation requires higher actual inflation at each unemployment level.

39. What does a point right of the LRPC represent in terms of unemployment?

    Unemployment above $u_n$. Economy has slack with unemployment exceeding natural rate.

40. What does a point left of the LRPC represent in terms of unemployment?

    Unemployment below $u_n$. Economy is overheating with unemployment below natural rate.

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