Question

Consider the following Phillips Curve: πₜ=(1−θ) π+θπₜ₋₁+(m+z)−αuₜ; π=2%,m+z=5%,α=1.67. In 2022 , the unemployment rate was 3%, and the inflation rate was 6%. You are an employed worker who wants to ask for a raise to keep their purchasing power constant in 2023. What raise in % would you request to your employer if

a) Expectations are fully anchored, and the unemployment rate is constant between 2022 and 2023.
b) Expectations are fully de-anchored, and the unemployment rate is constant between 2022 and 2023.
c) Expectations are fully anchored, and the unemployment rate drops to 2% in 2023.
d) Expectations are fully de-anchored, and the unemployment rate drops to 2% in 2023.

Answer 1

To keep your purchasing power constant in 2023, you would need different raise percentages depending on the scenario. If expectations are fully anchored or fully de-anchored, you would need to request a raise of 6% to match the inflation rate. If the unemployment rate drops to 2%, you would need to request a raise of 4% to match the expected inflation rate.

Step-by-step explanation:

To keep your purchasing power constant in 2023, you would need to request a raise that matches the expected inflation rate. Let's analyze each scenario:

1. If expectations are fully anchored and the unemployment rate is constant between 2022 and 2023, you would need to request a raise of 6% to match the inflation rate.
2. If expectations are fully de-anchored and the unemployment rate is constant between 2022 and 2023, you would still need to request a raise of 6% to match the inflation rate.
3. If expectations are fully anchored and the unemployment rate drops to 2% in 2023, you would need to request a raise of 4% to match the expected inflation rate of 2%.
4. If expectations are fully de-anchored and the unemployment rate drops to 2% in 2023, you would still need to request a raise of 6% to match the expected inflation rate of 2%.

In summary:

• If expectations are fully anchored or fully de-anchored, you would need to request a raise of 6% to match the inflation rate.
• If the unemployment rate drops to 2%, you would need to request a raise of 4% to match the expected inflation rate.