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Inflationary Gaps and Unemployment
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According to the Phillips curve, what is the expected relationship between the unemployment rate and inflation during an inflationary gap?

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Choose the Best Answer

A

Higher unemployment leads to higher inflation

B

Lower unemployment leads to higher inflation

C

There is no relationship between unemployment and inflation

D

Higher inflation leads to lower unemployment rates

Understanding the Answer

Let's break down why this is correct

Answer

The Phillips curve shows a relationship between unemployment and inflation, suggesting that when unemployment is low, inflation tends to be high. During an inflationary gap, the economy is producing more than its potential, leading to higher demand for goods and services. This increased demand can push prices up, causing inflation to rise. For example, if a company hires many workers to meet high demand, it might pay them more, leading to higher wages and, in turn, higher prices for consumers. Thus, in an inflationary gap, we typically see low unemployment alongside increasing inflation.

Detailed Explanation

When more people have jobs, they spend more money. Other options are incorrect because This answer suggests that more joblessness leads to rising prices; This choice claims there is no link between job rates and prices.

Key Concepts

unemployment rate
Phillips curve
Topic

Inflationary Gaps and Unemployment

Difficulty

medium level question

Cognitive Level

understand

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