Economics • Economic BasicsHard
What is the primary implication of the 'Friedman-Phelps Natural Rate Hypothesis' regarding monetary policy?
A. There is no long-run trade-off between inflation and unemployment, as the long-run Phillips curve is vertical at the natural rate of unemployment.✓ Correct Answer
B. Monetary expansion permanently reduces unemployment at the cost of higher stable inflation.
C. Fiscal policy is completely ineffective in both the short run and the long run.
D. Inflation expectations adjust instantly and costlessly to all announced policy changes.
💡 Solution & Explanation
The Friedman-Phelps natural rate hypothesis asserts that there is no long-run trade-off between inflation and unemployment, implying that the long-run Phillips curve is vertical at the natural rate of unemployment. Expansionary monetary policies can only temporarily lower joblessness in the short run before expectations adjust, rendering long-run attempts ineffective for real economic gains. This macroeconomic theory revolutionized modern monetary policy formulation.
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