Chapter 15 :

INFLATION, UNEMPLOYMENT,
AND MONETARY POLICY

By: Audrey, Ida, Abhav, Vandit

Key Points
15.
Inflation, business cycle, phillips curve
3

- When central banks announce interest rates up -

Inflation too high, trying to bring it down
- When central banks announce interest rates down -
Inflation too low, danger of going into deflation.
- Deflation - Weakening economy, leads to layoffs and
salary reductions.
- Inflation low, unemployment gets higher,
government aims so they both are in the middle,
(Phillips curve)
- Real wages: purchasing power of your income. It's
what you can really buy with the money you earn
Key Points
15.
Demand Shocks/ demand-side policies
10

● Demand shocks : It is when people suddenly buy less.

● Demand sided policies:This is how policy makers respond
when people start buying less.
● How do policy makers respond to demand shocks
-Fiscal policies:This is when the government steps in for
example by increasing it’s spending on things like infastructure
projects or cutting taxes
-Monetary policy:Tnis is when the central
bank focuses on adjusting interest rates
An example of a demand shock isthe tech
bubble burst led to the recession in the US
2001.
Here is how the policy makers tried to
respond to this demand shock
The central bank
decreased interest
rates, and the
government
implemented fiscal
policy through tax cuts
and increased
spending.
Key Points
15.
Supply Shocks and Inflation
7
Milton Friedman's Views on Inflation and Phillips Curve:
- Expected inflation influences the Phillips curve.
- Policymakers were criticized for viewing the Phillips curve as
a simple way to choose popular combinations of inflation and
unemployment.
Factors Contributing to Inflation:
- Other causes of inflation include shifts in the price-setting
and wage-setting curves due to changes in market power.
Increased power of owners of firms relative to consumers or
employees can lead to a wage-price spiral.
Supply Shocks:
- Shocks affecting the labor market equilibrium are called supply
shocks. They differ from demand shocks, working through changes
in aggregate supply rather than demand.
Global Economic Changes and Inflation:
- Changes in the global economy, such as shifts in oil prices, can
trigger supply shocks and influence inflation. An increase in the
world oil price can lead to a one-off increase in the price level
(inflation) and rising inflation over time.
Key Points
15.
Monetary Policy
8

- Monetary policy is the actions taken to control a country’s overall money supply and to achieve economic
growth.
- When unemployment is low, the prices tend to go higher and when employment is low then the prices go
down.
- Most countries leave the responsibility to the Central Bank.
- central banks use changes in the policy interest rate as their monetary policy instrument to stabilize the
economy.
- Policy makes and voters prefer to have low unemployment and low inflation however they can’t have both
of them at the same time.
- Uses the Phillips curve
Summary

Summary Notes

- This unit explores how the job market and the amount of stuff produced in an economy (output) affect
prices and the challenges policymakers face in finding the right balance.
- When lots of people are working, companies may increase prices, causing inflation. Conversely, when
many people are jobless, inflation tends to decrease. Policymakers aim for a sweet spot with low
unemployment and stable prices, but achieving both simultaneously is tough. There's a critical level of
unemployment where inflation is stable, and pushing unemployment too low can lead to a cycle of rising
wages and prices.
- Governments use monetary policies (controlling money supply and interest rates) to influence how much
money is circulating and control inflation. Unexpected events, like a sudden rise in oil prices, can throw a
wrench into these plans. Many countries entrust central banks with managing monetary policies, often
focusing on keeping inflation at a target level.