EM232 Practice Problem: Phillips Curve Name______
Assume the current inflation rate is 4% and the expected inflation rate is 4%. Using 5% as the natural unemployment rate, plot the short-run and long-run Phillips curves. Then, assume the Fed stimulates the economy pushing unemployment to 3% and actual inflation to 6%. Show the short-run effects on your graph. Then show the long-run effects assuming inflation expectations adjust to 6% (assume actual inflation remains at 6%). On the same graph, illustrate and explain how the Fed could get inflation back to their target rate of 4%. Include a discussion of “painless” and “painful” disinflation. Label everything as if this were an exam/quiz question.