Chapter 35

Chapter 35 was all about the SHORT-RUN relationship between inflation and unemployment, since in the long run both factors are unaffected by one another. The Philips curve was introduced in the chapter to relate the concept back to aggregate demand and aggregate supply to understand why the curve is downward sloping. The natural rate hypothesis was also introduced to us, stating that unemployment would rather be unaffected by inflation in the long run. The chapter also conveys back to previous chapters by fully explaining supply shocks, which tend to alter firm's costs and prices, creating more than just "sticky" situations. The costs of reducing inflation, however, are also discussed and include rational expectations, as production must be held and then the loss must be calculated as a ratio of what was truly lost. For rational expectations there is a theory that discusses that people use all information given, including government's actions to somewhat guess what will happen in the near future. Eventually expectations change and so do the price level and inflation meaning that inflation and unemployment in the long run is unaffected.