Suppose _t-1 = 5. By calculating inflation for the next four years (0, 1, 2 and 3) at three different levels of y_t, identify and comment on the condition under which inflation will remain stable. I have done this but how can this be illustrated on a graph?

when yt=95

₀ = 5 + 0.2(95 - 100) = 4

₁= 4 + 0.2 (95 - 100) = 3

₂= 3 + 0.2(95 - 100) = 2

₃= 2 + 0.2(95 - 100) = 1

when yt = 100

₀= 5 + 0.2 (100 - 100) = 5

₁= 5 + 0.2(100 - 100) = 5

₂= 5 + 0.2(100 - 100) = 5

₃= 5 + 0.2(100 - 100) = 5

When y, = 105

₀ = 5 + 0.2(105 - 100) = 6

₁= 6 + 0.2(105 - 100) = 7

₂ = 7 + 0.2(105 - 100) = 8

₃ = 8 + 0.2(105 - 100) = 9

We can thus see that inflation will be stable only when yt = Ye. If yt < Ye, inflation

will keep falling, and if y > Ye, inflation will keep rising.

The reason for this lies in the labour market. When y < Ye, workers' bargaining power

weakens, so they settle for a lower real wage by asking for a lower money wage. When money wage falls, price also falls i.e., inflation is now lower. But when price falls, real wage is back to where it was before output fell 1.e., higher than what the workers wanted to settle for. So, they ask for lower money wage once again, and the whole process itself bringing inflation down forever.

The opposite happens when y+ > Ye. Workers' bargaining power strengthens, so they aspire for a higher real wage by asking for a higher money wage. When money wage rises, price also rises i.e., inflation is now higher. But when price rises, real wage is back to where it was before output fell i.e., lower than what the workers aspired for.

So, they ask for higher money wage once again, and the whole process itself pushing inflation up forever.

please illustrate this on a graph