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IAI Actuarial Core Principles · Business Economics · Recent macroeconomic history

Friedman's expectations-augmented Phillips curve is used by monetarists to argue that attempts by a government to hold unemployment below the natural rate will:

Monetarists argued that holding unemployment below the natural rate through demand stimulus leads to accelerating inflation. As expectations of inflation adjust upward, the short-run Phillips curve shifts up, so there is no permanent trade-off between inflation and unemployment.

  1. ALower inflation permanently while keeping unemployment low
  2. BReduce the natural rate of unemployment through demand growth
  3. CLead to ever-accelerating inflation as expectations adjustCorrect
  4. DShift the long-run aggregate supply curve outward
  5. Have no effect on inflation but raise real wages permanently

Explanation

Once workers' inflation expectations adjust, the short-run trade-off shifts upward. Keeping unemployment below the natural rate then needs ever-higher inflation, so inflation accelerates. A permanent trade-off, as in the first option, is what monetarists denied.

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