3. Consider the Phillips curve: Π = EΠ - B(u - un) + v Π...

3. Consider the Phillips curve: Π = EΠ - B(u - uⁿ) + v

Π = inflation EΠ =expected inflation v=supply shock

u=unemployment rate u^N=natural unemployment rate

Explain the effect on the Phillips curve and the Phillips curve tradeoff due to the Covid 19 virus.

Expert Solution

Π = EΠ - B(u - un) + v

Due to the covid19 crisis, the country is under lockdown and many people are losing jobs due to lower aggregate demand. Also, since, companies, factories, manufacturing site are temporarily shut down, there are two effects as explained below:

1. Higher Unemployement - Higher unemployement as a result of above happeningswould lead to lower output and higher inflation rate according to the above equation. Due to the high mortality, labour force is reduced and natural rate of unemployment may also increase leading to a shift in philips curve and reaching a point with higher inflation and higher unemploment rate.

2. Supply shock - Supply shock due to lockdown and higher unemployment would again lead to higher inflation rate in the economy according to the above equation. This would lead to the shift of the Philips curve to a point where there is higher inflation and unemployment rate with higher natural unemplyment rate.

Rahul Sunny answered 2 years ago

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