South-Westerns' Economic News Summaries
The Inevitable Inflation-Unemployment Trade Off?
Topic Employment, Unemployment and Inflation
Key Words

Unemployment and Inflation

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Reference ID: A138737128
News Story

Addressing the age-old economic conundrum of fighting inflation or unemployment at the same time, Ben S. Bernanke faces the issue head on. “Middle-income living standards, and poverty for that matter, are best addressed through employment growth,” Mr. Bernanke said during his confirmation hearing before the Senate Banking, Housing, and Urban Affairs Committee. “By maintaining low inflation and low expectations of inflation, you can create new employment.”

Bernanke defended his proposal to base monetary policy on an explicit inflation target. He does not think that this approach to monetary policy would weaken the Fed’s “dual mandate” of promoting stable prices and promoting full employment.

Chairman Greenspan seems to agree with Bernanke’s position. Greenspan says it is “false dichotomy” to assume that low inflation was at odds with rising wages and greater income equality.

One major issues in Bernanke’s confirmation is a concern among lawmakers--particularly Democrats--that Bernanke will be so concentrated on preventing inflation by means of mechanical formulas that the Fed may end up choking off employment growth.

Bernanke answers, “I am not proposing any major change in policy or in the way policy is conducted.” He further promoted the need to preserve the flexibility that has become the hallmark of Chairman Greenspan’s 18-year tenure at the Fed. “I do not subscribe to rigid or mechanistic rules in policy making,” he said.

Analysts and legislators alike are sure to watch with interest as Bernanke’s position on inflation targets unfolds. Economists study this relationship between inflation and unemployment with what they call a Phillips Curve. Named after pioneering economist A.W. Phillips, the curve reflects a negative or inverse relationship between the rate of inflation and the rate of unemployment.

Questions
1.

Discuss how an inflation target would work to set monetary policy.

2. Discuss the notion of a Phillips Curve. Do you believe that the Phillips Curve accurately reflects today’s economic conditions as well as it did in the 1950s and 1960s? Why or why not.
Source Edmund Andrews, “Low Inflation and Rising Wages Can Coexist, Fed Nominee Says”, The New York Times Online, November 16, 2005.
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