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S6 Economics | Inflation and Unemployment Paper 3 (Phillips Curve and Policy Trade-offs)
S6 Economics | Inflation and Unemployment Paper 3 (Phillips Curve and Policy Trade-offs)
The examinable skill is not sketching the curve but telling a movement along it from a shift of it, and explaining why the short-run trade-off vanishes in the long run.
Attempt first, mark afterwards Allow about thirty minutes; for each item decide first whether the curve moves or shifts, then write the conclusion.
01 Paper details (check answers afterwards)
| Item | Detail |
|---|---|
| Questions | 10 items |
| Suggested time | About 30 minutes |
| Difficulty mix | Foundation 4 · Intermediate 3 · Challenge 2 · Error redo 1 |
| Chapter | Chapter: S6 Economics | Inflation and Unemployment |
| Level | S6 (Secondary 6) Economics |
02 Questions (10 items)
- FoundationWhat relationship does the short-run Phillips curve show between inflation and unemployment?
- FoundationTake the short-run curve as pi equals 8 minus 0.5 times u. What is inflation when unemployment is 4 and when it is 6 per cent?
- FoundationWhat is stagflation and how does it appear on the Phillips curve?
- FoundationWhat is the shape of the long-run Phillips curve and why?
- IntermediateWith a natural rate of 5 per cent and expected inflation of 5 per cent, demand policy pushes unemployment to 4 per cent and inflation to 6 per cent. If expectations then rise to 6 per cent, where does unemployment return?
- IntermediateThe central bank raises rates sharply to fight inflation. What happens to unemployment and inflation in the short and long run?
- IntermediateIt is argued that continuous demand expansion can keep unemployment low forever. Refute this with the Phillips curve.
- ChallengeWhen expected inflation rises, how does the short-run Phillips curve move? Using pi equals 8 minus 0.5 times u, what is inflation at u equal to 4 per cent once expectations rise from 5 to 6 per cent?
- ChallengeIf workers and firms believe the inflation target and reset wages at once, can expansion still cut unemployment in the short run? Which theory is this?
- Error redoA classmate writes that the Phillips curve shows a permanent trade-off, so government may pick any point. What is wrong?
03 Answers and one-line notes
| # | Answer | One-line note |
|---|---|---|
| 1 | A negative one: higher inflation goes with lower unemployment | In the short run stronger aggregate demand raises prices and output while pulling unemployment down, so the curve slopes downward and policy faces a trade-off. |
| 2 | 6 and 5 per cent | Substituting, pi is 8 minus 0.5 times 4, or 6 per cent, and 8 minus 0.5 times 6, or 5 per cent; less unemployment means more inflation. |
| 3 | Inflation and unemployment rise together, so the whole short-run curve shifts up | Stagflation means prices rising while output stalls and unemployment climbs, as in an oil shock that pushes costs up; the curve does not move along itself but shifts upward, so the same unemployment now comes with higher inflation. |
| 4 | Vertical at the natural rate, because expectations fully adjust so money policy only changes the price level | Over time workers and firms revise expected inflation to match reality, real wages return to where they were and unemployment returns to the natural rate, so there is no long-run trade-off and the curve is vertical. |
| 5 | Back to the natural rate of 5 per cent but with inflation stuck at 6 per cent | Once workers see 6 per cent inflation they bargain for higher wages, real wages recover, hiring falls and unemployment climbs from 4 back to 5 per cent, while inflation stays at 6 per cent, which is exactly why the long-run curve is vertical. |
| 6 | Short run: inflation down, unemployment up along the curve; long run: unemployment back to natural, inflation permanently lower | Higher rates cut investment and consumption and shift aggregate demand left, so the economy moves up the short-run curve into more unemployment and less inflation; once expectations settle, unemployment returns to the natural rate with inflation at a new, lower level. |
| 7 | The long-run curve is vertical, so repeated expansion only ratchets expectations and inflation up while unemployment returns to the natural rate | Each expansion lowers unemployment only until expectations catch up, after which unemployment returns while inflation is higher; the result is accelerating inflation with unchanged unemployment, so no lasting trade-off exists. |
| 8 | The whole curve shifts up; at 4 per cent unemployment inflation rises from 6 to 7 per cent | Write the curve as pi equals expected inflation minus 0.5 times u minus 5. With expectations up from 5 to 6 per cent, inflation at 4 per cent unemployment becomes 6 plus 1, that is 7 per cent, so the curve shifts up by 1 points. |
| 9 | Barely, if at all; this is the rational expectations view | Under rational expectations the announcement itself moves expectations, so wages and prices rise together and output and unemployment hardly change; only surprise policy works, which makes credibility and communication policy instruments in their own right. |
| 10 | It confuses the short and long run: the long-run curve is vertical at the natural rate | The trade-off exists only in the short run before expectations adjust; in the long run unemployment is set by structural factors and expansion buys only higher inflation, or even stagflation, so no point may be chosen freely. |
04 What to do after marking
- After marking, redo only the wrong items and write down which step went wrong (formula, unit, or misread number).
- Repeat the same item two days later; move to the next paper only when both attempts are correct.
- Parents only need the answer and note columns; there is no need to explain every item.
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