Phillip’s Curve and AD-AS Model:  Use assumptions below to set up an initial point denoted as the point A for a and b.  For each of the following draw an AD/AS diagram and a corresponding Phillip’s curve assuming the following:

(1) Natural unemployment is 5%   (2)  Unemployment is 7%

(3) Actual GDP is 15,000                 (4) Full employment GDP is 20,000

Based on the Rational Expectations: Keynesian economists thought of the Phillips curve as a “trade-off.” They thought policymakers had the ability to pick low unemployment and high inflation or high unemployment with low inflation, or a combination in between and that the economy would stay in whatever position they chose. Explain why this view was mistaken based upon the following events.

a. Show in both diagrams the effect of a decrease in income tax

 

b. Show in both diagrams the effect of an expansionary monetary policy

 

c. Show in both diagrams the effect of an increase in oil prices.

 

d. Show in both diagrams the effect of a decrease in expected inflation

 

e. Show in both diagram the effect of Friedman and the Natural Rate Theory

 (Hints: short run effect of monetary policy and long run based on the self-correction)