Explain, using a diagram or diagrams, why some economists argue that the long run Phillips curve is vertical but that the short run Phillips curve is not.
To understand why some economists argue that the long run Phillips curve is vertical while the short run Phillips curve is not, we need to examine the relationship between inflation and unemployment in both the short run and the long run.
Diagram:
- Horizontal axis: Unemployment rate
- Vertical axis: Inflation rate
- Short Run Phillips Curve: In the short run, there is a trade-off between inflation and unemployment due to various factors such as nominal wage rigidities, price stickiness, and imperfect information.
The short run Phillips curve is represented by a downward-sloping curve. This implies that as the unemployment rate decreases, inflation tends to rise, and vice versa. The curve shows the inverse relationship between the two variables, indicating that policymakers can influence the unemployment rate through expansionary or contractionary policies that impact inflation.
- Long Run Phillips Curve: In the long run, economists argue that the Phillips curve becomes vertical, indicating that there is no trade-off between inflation and unemployment. This view is based on the concept of the natural rate of unemployment.
The natural rate of unemployment represents the level of unemployment that exists when the economy is at its potential output in the long run. It is determined by structural factors such as labor market institutions, demographics, and technological changes.
As the economy adjusts over time, wages and prices become more flexible, and any short-run trade-off between inflation and unemployment diminishes. In the long run, the economy returns to the natural rate of unemployment regardless of the level of inflation.
The vertical long run Phillips curve implies that policymakers cannot permanently reduce unemployment through expansionary monetary or fiscal policies. Any attempts to push unemployment below its natural rate would result in higher inflation without any sustained decrease in unemployment.
Therefore, the short run Phillips curve is not vertical because it reflects temporary trade-offs between inflation and unemployment due to nominal rigidities and other factors. In contrast, the long run Phillips curve is vertical because it represents the equilibrium level of unemployment that is consistent with the natural rate and does not change with inflation.
It's important to note that the Phillips curve is a theoretical concept, and the actual relationship between inflation and unemployment can vary over time due to various economic factors, policy interventions, and changes in expectations. Nonetheless, the vertical long run Phillips curve indicates the absence of a permanent trade-off between inflation and unemployment.
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