Question

Suppose that the firms' markup over cost is initially 38 % and that the wage determination equation when Pe=P is W = P(1-u) where u = unemployment rate (assume for simplicity, that the catch-all variable z does not enter wage setting).

Now suppose that there is a permanent change in the oil price that changes the markup to 27%. Keeping all else constant, what is the absolute change in the natural level of unemployment (i.e. 2−1=?U2n−U1n=?

Answer 1

The question relates to the change in the natural level of unemployment due to a change in firms' markup over costs.

The wage determination equation suggests a possible inverse relationship between markup and unemployment. However, without a specific model and parameters, a numerical answer cannot be provided.

Step-by-step explanation:

The question pertains to the concept of the natural level of unemployment in the context of a change in firms' markup over cost due to a permanent change in oil prices.

In this scenario, there is a reduction in the markup from an initial 38% to 27%. According to the wage determination equation provided (W = P(1-u)), where W is the wage, P is the price level, and u is the unemployment rate, we are asked to calculate the absolute change in the natural level of unemployment, when all other factors remain constant.

Given that the wage determination equation does not include other variables such as the catch-all variable z, it suggests a potentially inverse relationship between the markup and the natural level of unemployment.

However, providing a numerical answer would require a more comprehensive model that captures the interaction among wages,

prices, and unemployment with specific parameters to show how the change in markup affects the natural unemployment rate. Without additional information, it is not possible to give a numerical change in the natural level of unemployment.