Chap 7 – part 1: unemployment

1. In previous chapters, we have seen some of the forces that determine the level and growth of a country’s
standard of living. Besides saving and investing a high fraction of its income, An even more obvious
determinant of a country’s standard of living is the amount of unemployment which a contry experiences.
When a country keeps its workers as fully employed as possible, it achieves a higher level of GDP than it
would if it left many of its workers standing inactive.
This chapter begins our study of unemployment.
2. In this chapter, we begin to examine the definition and measurment of the rate of unemployment?
After that, We will discuss four explanations for the economy’s natural rate of unemployment
And then we examine the impacts of unemployment and ways to reduce the rate of unemployment.
3. Let’s start by examining what the term unemployment means.
In the united state, Measuring unemployment is the job of the Bureau of Labor Statistics, which is part of
the Department of Labor. Similarly we have General statistics office of Vietnam does this job.
Every month, these offices produce data on unemployment and on other aspects of the labor market. They
places each adult into 3 categories:
4. Employed: includes those who worked as paid employees, worked in their own business, or worked as
unpaid workers in a family member’s business. Both full-time and part-time workers are counted. This
category also includes those who were not working but who had jobs from which they were temporarily
absent because of, for example, vacation, illness, or bad weather.
Unemployed: This category includes those who were not employed, and had tried to find employment
during the previous four weeks. It also includes those waiting to be recalled to a job from which they had
been laid off.
Labor force: the total number of workers, including both the employed and the unemployed
Not in the labor force: This category includes those who fit neither of the first two categories, such as a
full-time student, homemaker, or retiree.
5. unemployment rate: the percentage of the labor force compared to unemployed
labor-force: measure the percentage of the total adult population compared to the labor force
6. The breakdown of Vietnam population in 2015 (Adult population : 70,54 mill, Labor force: 55.37 mill,
U rate 2.1%, Lf rate 78.5%)  almost 4/5th of VN adult population were participating in the labour market,
and only 2% of them were without work.
8. Although fluctuating widely, the economy always has some unemployment and that the amount changes
from year to year. The normal rate of unemployment around which the unemployment rate fluctuates is
called the natural rate of unemployment, and the deviation of unemployment from its natural is called
cyclical unemployment.
natural rate of unemployment refers to the amount of unemployment that the economy normally
experiences. Cyclical existence in the long run when the economy adjust itself and it is closely associated
with the short-run ups.
9. While it is easy to distinguish between a person with a fulltime job and a person who is not working at
all, it is much harder to distinguish between a person who is unemployed and a person who is not in the
labor force.
Movements into and out of the labor force are, in fact, common. More than one-third of the unemployed
are recent entrants into the labor force. These entrants include young workers looking for their first jobs.
They also include, in greater numbers, older workers who had previously left the labor force but have now
returned to look for work. Moreover, not all unemployment ends with the job seeker finding a job.
Because people move into and out of the labor force so often, statistics on unemployment are difficult to
interpret. On the one hand, some of those who report being unemployed may not trying hard to find a job.
They may be calling themselves unemployed. On the other hand, some of those who report being out of the
labor force may want to work. These individuals may have tried to find a job and may have given up after
an unsuccessful search. These people do not show up in unemployment statistics, even though they are
truly workers without jobs. So we can say that…..
10. There are always some workers without jobs, even when the overall economy is doing well. In other
words, the unemployment rate never falls to zero the remaining sections of this chapter examine the
reasons actual labor markets depart from the ideal of full employment
we will find that there are four ways to explain unemployment in the long run. The first explanation is that
it takes time for workers to search for the jobs that are best suited for them. The unemployment that results
from the process of matching workers and jobs is sometimes called frictional unemployment
The next three explanations for unemployment suggest that the number of jobs available in some labor
markets may be insufficient to give a job to everyone who wants one. This occurs when the quantity of
labor supplied exceeds the quantity demanded. Unemployment of this sort is sometimes called structural
unemployment.
Next, in section 2, we will examine these 4 reasons in turn.
11. There are 4 main reasons for unemployment. The first is the time it takes workers to search for jobs.
The other 3 reasons relate to above-equilibrium wage: minimum-wage laws, unions, and efficiency wages.
We will examine these possible reasons in turns.
12. One reason economies always experience some unemployment is job search. Job search is the process
of matching workers with appropriate jobs. If all workers and all jobs were the same, so that all workers
were equally well suited for all jobs, workers would quickly find new jobs that were well suited for them
and job search would not be a problem. But in fact, workers differ in their abilities and skills, jobs differ in
their attributes, and Furthermore, the flow of information about job candidates and job vacancies is
imperfect, it move slowly among the many firms and households in the economy.
For all these reasons, searching for an appropriate job takes time and effort, and this tends to reduce the
rate of job finding. Indeed, because different jobs require different skills and pay different wages,
unemployed workers may not accept the first job offer they receive.
13. For many reasons, the types of goods that firms and households demand vary over time. As the demand
for goods shifts, so does the demand for the labor that produces those goods. The invention of the personal
computer, for example, reduced the demand for typewriters and the demand for labor by typewriter
manufacturers. At the same time, it increased the demand for labor in the electronics industry. Similarly,
because different regions produce different goods, the demand for labor may be rising in one part of the
country and falling in another. because it takes time for workers to change regions, there is always
frictional unemployment.
Workers find themselves unexpectedly: when their firms fail, when their job performance is deemed
unacceptable, or when their particular skills are no longer needed. They also may Quit their job to change
careers or to move to different parts of the country
 So…
14. One way is through government-run employment agencies, which give out information about job
[Link] employment agencies spread information about job vacancies to match jobs and
workers more efficiently
Another way is through public training programs, which help disadvantaged groups escape poverty.
Supporters (những ng ủng hộ) of these programs believe that they make the economy operate more
efficiently by keeping the labor force more fully employed
Critics argue that it is better to let the private market match workers and jobs. In fact, most job search in
our economy takes place without intervention by the government. Newspaper ads, Internet job sites,college
placement offices, headhunters, and word of mouth all help spread information about job openings and job
candidates. Similarly, much worker education is done privately, either through schools or through on-the-
job training. These critics contend that the government is no better—and most likely worse—at
disseminating the right information to the right workers and deciding what kinds of worker training would
be most valuable. They claim that these decisions are best made privately by workers and employers
15. Another Government program that increase the amount of frictional unemployment is UI. This program
is designed to offer workers partial protection against job loss. unemployed workers can collect a fraction
of their wages for a certain period after losing their jobs.
The terms of the program vary over time and across states, in VN: Đóng từ 12-36 tháng thì đc hưởng 3
tháng trợ cấp, sau đó cứ thêm 12 tháng thì đc hưởng 1 tháng, nhưng ko đc hưởng quá 12 tháng, but no
more than 12 months.
16. unemployment insurance increases the amount of frictional unemployment and raises the natural rate.
The unemployed who receive unemployment-insurance benefits are less pressed to search for new
employment and are more likely to turn down unattractive job offers. Both of these changes in behavior
reduce the rate of job finding. In addition, because workers know that their incomes are partially protected
by unemployment insurance, they are less likely to seek jobs with stable employment prospects  so…
But the policy is not bad. It help to improve the ability of the economy to match each worker with the most
appropriate job.
17. To understand structural unemployment, we begin by reviewing how minimumwage laws can cause
unemployment.
In this labor market, the wage at which supply and demand balance is W E. At this equilibrium wage, the
quantity of labor supplied and the quantity of labor demanded both equal LE. By contrast, if the wage is
forced to remain above the equilibrium level, perhaps because of a minimumwage law, the quantity of
labor supplied rises to LS, and the quantity of labor demanded falls to LD. The resulting surplus of labor,
LS – LD, represents unemployment.
18. While minimum-wage laws are one reason unemployment exists in the economy, they do not affect
[Link]-wage laws matter most for the least skilled and least experienced members of the labor
force,
20. When a union bargains with a firm, it asks for higher wages, better benefits, and better working
conditions than the firm would offer. If the union and the firm do not reach agreement, the union can
organize a withdrawal of labor from the firm, called a strike. Because a strike reduces production, sales,
and profit, a firm facing a strike threat is likely to agree to pay higher wages than it otherwise would
When a union raises the wage above the equilibrium level, it raises the quantity of labor supplied and
reduces the quantity of labor demanded, resulting in unemployment. Workers who remain employed at the
higher wage are better off, but those who were previously employed and are now unemployed are worse
off.
But not all companies have union. when unions raise wages in one part of the economy, the supply of labor
increases in other parts of the economy. This increase in labor supply, in turn, reduces wages in industries
that are not unionized.
22. critics argue, both inefficient and inequitable. It is inefficient because high union wages reduce
employment in unionized firms below the efficient, competitive level. It is inequitable because some
workers benefit at the expense of other workers.
Supporters contend that unions are necessary. In the absence of a union, therefore, the firm could use its
market power to pay lower wages and offer worse working conditions than would prevail if it had to
compete with other firms for the same workers. if workers do not accept the wages and working conditions
that the firm offers, they have little choice but to move or stop working.
In the end, there is no agreement among economists about whether unions are good or bad for the
economy. Like many institutions, their influence is probably beneficial in some states and adverse in others
23. A fourth reason economies always experience some unemployment is suggested by the theory of
efficiency wages. According to this theory, firms operate more effeciently if wages are above the balance
level.
In some ways, the unemployment that arises from efficiency wages is similar to the unemployment that
arises from minimum-wage laws and unions. In all three cases, unemployment is the result of wages above
the level that balances the quantity of labor supplied and the quantity of labor demanded. Yet there is also
an important difference. Minimum-wage laws and unions prevent firms from lowering wages in the
presence of a surplus of workers. High-wages make workers more productive  Efficiency-wage theory
states that firms find it profitable to pay wages above the equilibrium level
24. Why should firms want to keep wages high? This decision may seem so strange, for wages are a large
part of firms’ costs. Normally, we expect profitmaximizing firms to want to keep costs—and therefore
wages—as low as possible. The new insight of efficiency-wage theory is that paying high wages might be
profitable because they might raise the efficiency of a firm’s workers.
Let’s now consider four of these types.
25. The first and simplest type of efficiency-wage theory emphasizes the link between wages and worker
health. Better paid workers eat a more nutritious diet, and workers who eat a better diet are healthier and
more productive. A firm may find it more profitable to pay high wages and have healthy, productive
workers than to pay lower wages and have less healthy, less productive workers.
This type of efficiency-wage theory can be relevant for explaining unemployment in less developed
countries where inadequate nutrition can be a problem. In these countries, firms may fear that cutting
wages would, in fact, adversely influence their workers’ health and productivity. In other words, nutrition
concerns may explain why firms may maintain above-equilibrium wages despite a surplus of labor.
26. A second type of efficiency-wage theory emphasizes the link between wages and worker turnover.
Workers quit jobs for many reasons: to take jobs in other firms, to move to other parts of the country, to
leave the labor force, and so on. The frequency with which they quit depends on the benefits of leaving and
the benefits of staying. The more a firm pays its workers, the less often its workers will choose to leave.
Thus, a firm can reduce turnover among its workers by paying them a high wage.
Why do firms care about turnover? The reason is that it is costly for firms to hire and train new workers.
Moreover, even after they are trained, newly hired workers are not as productive as experienced workers.
Firms with higher turnover, therefore, will tend to have higher production costs. Firms may find it
profitable to pay wages above the equilibrium level to reduce worker turnover.
27. A third type of efficiency-wage theory emphasizes the link between wages and worker quality. All
firms want workers who are talented, and they try to pick the best applicants to fill job openings. But
because firms cannot perfectly gauge the quality of applicants, hiring has a degree of randomness to it.
When a firm pays a high wage, it attracts a better workers to apply for its jobs and thereby increases the
quality of its workforce. If the firm responded to a surplus of labor by reducing the wage, the most
competent applicants—who are more likely to have better alternative opportunities than less competent
applicants—may choose not to apply. If this influence of the wage on worker quality is strong enough, it
may be profitable for the firm to pay a wage above the level that balances supply and demand.
28. A fourth efficiency-wage theory holds that a high wage improves worker effort. This theory posits that
firms cannot perfectly monitor their employees’ work effort and that employees must themselves decide
how hard to work. Workers can choose to work hard, or they can choose to shirk and risk getting caught
and fired.
High wages make workers more enthusiastic to keep their jobs and, thereby, give workers an incentive to
put forward their best effort. If the wage were at the level that balanced supply and demand, workers would
have less reason to work hard because if they were fired, they could quickly find new jobs at the same
wage. Therefore, By paying a higher wage, a firm induces more of its employees not to shirk and thus
increases their productivity.
32. 1. High unemployment leads to inefficient economy, wasted resources
2. Countries that have a high unemployment rate have to deal with social evils such as theft, alcohol,
gambling, drug addiction ... even spending a great deal of money on crime prevention, erosion. Healthy
lifestyle can be broken many traditional relationships
3. low per capita income, worse living conditions, reduced professional skills, increased risk of illness,
increased family happiness threatened, disadvantaged children
33. Beyond the cost of unemployment, a reasonable unemployment rate will have a positive impact on the
economy
Creating a reserve of labor provides new workers to regulate the economy
The situation of the worker's life has changed
Chap 7 – part 2: inflation
2. Similar to the structure of unemployment, in this part we’ll go to discuss about…
3. inflation is an increase in the general price level of goods and services in an economy over a period of
time. When the price level rises, each unit of currency buys fewer goods and services; consequently,
inflation reflects a reduction in the purchasing power per unit of money – a loss of real value in the medium
of exchange and unit of account within the economy
Inflation means …
4. When the price level rises, people have to pay more for the goods and services they buy or we say that
people are willing to give up so much more money in exchange for the goods.
The money to buy apple has become less valuable. inflation is more about the value of money than about
the value of goods. A rise in the price level means a lower value of money because each dollar in your
wallet now buys a smaller quantity of goods and services
When the overall price level rises, the value of money falls.
5. The cost of almost everything today has gone up. Economists use the term inflation to describle a
situation in which the economy’s overall price level is rising.
The inflation rate is the percentage change in the price level from the previous period .
Use the consumer price index to calculate the inflation rate, which is the percentage change in the price
index from the preceding period.
6. Deflation is the opposite of inflation. When there are fewer dollars to go around, every one of them is
worth more in terms of real goods and property.
Deflation comes about when interest rates are low, and when the economy is performing better than the rest
of the world. Deflation makes it cheaper to buy things in the store, but companies who sell their products
overseas often see a slowdown in sales.
[Link] are 3 main reasons cause the inflation:
8. This is when there are increases in the number of people who want sth whose supply can’t keep up. The
most common cause of demand inflation is that people are getting richer and have more money to spend.
Rising real wages of employees or government lowering the tax, for instant, make people have more
money, So, in order to meet their demand, consumers will be willing to pay more. The price of product will
increase. Another example is A fallen in interest rates that causes a rise in consumer spending and higher
investment. In the long term make rising demand. This boost to demand causes a rise in AD and
inflationary pressures.
If people have a lot of money, and they want to buy more stuff, they are going to bid up the prices for
things, causing [demand pull] inflation.
This explanation of inflation is generally agreed upon between schools of economic thought, but it doesn’t
fully explain what makes people have a lot of money.
9. We can also explain this kind of inflation causing by an expansion in the money supply, meaning that
new currency has been printed and is circulating throughout the country, bidding up the prices of all goods.
Or When the Fed buys government bonds, it pays out dollars and expands the money supply.
Those who benefit most from inflation are the ones who get to touch the newly-printed money first before
prices have risen (which are, generally speaking, investment banks), and those who suffer the most from
inflation are those who touch the money last, as they usually get their wages increased only after prices
have risen.
10. Another cause of inflation is the decrease in availability of an important productive resource, like oil or
something. An oil shortage would increase the price of gasoline, increasing the cost of delivering flour,
cheese, and pepperoni. This would increase the cost of producing pizza, therefore decreasing the number
of pizzas that can be produced. Economists call this a supply shock and it causes something called cost
push inflation.
The critics of the term Cost Push Inflation argue that natural disasters and should not be considered
inflationary, inflation is a term for monetary policy and affects consumers’ purchasing power, not just the
price.
Higher Wages. Wages are one of the main costs facing firms. Rising wages will push up prices as firms
have to pay higher costs (higher wages may also cause rising demand)
11. the Fed doubles the supply of money by printing some dollar bills and dropping them around the
country from helicopters. (Or less dramatically and more realistically, the Fed could inject money into the
economy by buying some government bonds from the public in open-market operations.
The monetary injection shifts the supply of money rises. As a result, the value of money decreases
when an increase in the money supply makes dollars more plentiful, the result is an increase in the price
level that makes each dollar less valuable
12. The immediate effect of a monetary injection is to create an excess supply of money. At the prevailing
price level, people had exactly as much money as they wanted. But after the injection of new money,
people have more dollars in their wallets than they want. At the prevailing price level, the quantity of
money supplied now exceeds the quantity demanded.
They might use it to buy goods and services. Or they might use this excess money to make loans to others
by buying bonds or by depositing the money in a bank. In either case, the injection of money increases the
demand for goods and services
Thus, the greater demand for goods and services causes the prices of goods and services to increase. The
increase in the price level, in turn, increases the quantity of money demanded because people are using
more dollars for every transaction
13. In this economy, people spend a total of $1,000 per year on pizza. For this $1,000 of spending to take
place with only $50 of money, each dollar bill must change hands on average 20 times per year.
The quantity equation shows that an fluctuation in the quantity of money in an economy must be reflected
in one of the other three variables:
1. The velocity of money is relatively stable over time.
2. Because velocity is stable, when the central bank changes the quantity of money (M), it causes
proportionate changes in the nominal value of output (P × Y).
3. The economy’s output of goods and services (Y) is primarily determined by factor supplies (labor,
physical capital, human capital, and natural resources) and the available production technology. In
particular, because money is neutral, money does not affect output.
4. With output (Y) determined by factor supplies and technology, when the central bank alters the money
supply (M) and induces proportional changes in the nominal value of output (P × Y), these changes are
reflected in changes in the price level (P).
5. Therefore, when the central bank increases the money supply rapidly, the result is a high rate of
inflation.
14. If inflation is so easy to explain, why do countries experience hyperinflation? That is, why do the
central banks of these countries choose to print so much money that its value is certain to fall rapidly over
time?
15. Interest rates are important variables for macroeconomists to understand because they link the economy
of the present and the economy of the future through their effects on saving and investment.
the nominal interest rate tells you how fast the number of dollars in your account will rise over time. The
real interest rate corrects the nominal interest rate for the effect of inflation to tell you how fast the
purchasing power of your savings account will rise over time.
And according to the quantity theory of money, growth in the money supply determines the inflation rate.
Let’s now consider how the growth in the money supply affects interest rates. In the long run over which
money is neutral, a change in money growth should not affect the real interest rate. The real interest rate is,
after all, a real variable. For the real interest rate not to be affected, the nominal interest rate must adjust
one-for-one to changes in the inflation rate. Thus, when the Fed increases the rate of money growth, the
long-run result is both a higher inflation rate and a higher nominal interest rate. This adjustment of the
nominal interest rate to the inflation rate is called the Fisher effect
16. Expected inflation is the inflation that economic agents expect in the future, whereas unexpected
inflation is the inflation experienced that is above or below that which we expected
While there is little consensus on the "right" rate of inflation for an economy (or even if inflation is
necessary at all), there is little disagreement in the differing impacts of expected and unexpected inflation.
When inflation is expected, agents in the economy can plan for it and act accordingly – businesses raise
prices, workers demand higher wages, lenders raise interest rates and so on.
Unexpected inflation is considerably more problematic. When inflation is higher than expected, it tends to
hurt workers, recipients of fixed incomes, and savers. In contrast, unexpected inflation often benefits
companies (who can raise prices quickly without needing to raise wages in tandem) and borrowers (who
can repay their debts with money that is now worth less than when they borrowed it).
As we have discussed, inflation is like a tax on the holders of money. a higher inflation rate leads to a
higher nominal interest rate, which in turn leads to lower real money balances. How can a person avoid
paying the inflation tax? Because inflation erodes the real value of the money in your wallet, you can avoid
the inflation tax by holding less money. One way to do this is to go to the bank more often. For example,
rather than withdrawing $200 every four weeks, you might withdraw $50 once a week. By making more
frequent trips to the bank, you can keep more of your wealth in your interest-bearing savings account and
less in your wallet, where inflation erodes its value.
The shoeleather costs of inflation may seem trivial. And in fact, which has had only moderate inflation in
recent years. But this cost is magnified in countries experiencing hyperinflation.
forced to convert his pesos quickly into goods or into U.S. dollars, which offer a more stable store of value
17. Most firms do not change the prices of their products every day. Instead, firms often announce prices
and leave them unchanged for weeks, months, or even years. One survey found that the typical U.S. firm
changes its prices about once a year.
Firms change prices infrequently because there are costs of changing prices. Costs of price adjustment are
called menu costs, a term derived from a restaurant’s cost of printing a new menu. Menu costs include the
cost of deciding on new prices, the cost of printing new price lists and catalogs, the cost of sending these
new price lists and catalogs to dealers and customers, the cost of advertising the new prices, and even the
cost of dealing with customer annoyance over price changes.
Inflation increases the menu costs that firms must bear. In the current U.S. economy, with its low inflation
rate, annual price adjustment is an appropriate business strategy for many firms. But when high inflation
makes firms’ costs rise rapidly, annual price adjustment is impractical. During hyperinflations, for
example, firms must change their prices daily or even more often just to keep up with all the other prices in
the economy.
18. The problem is awmakers often fail to take inflation into account when writing the tax laws.
Suppose that in 1980 you used some of your savings to buy stock in Microsoft Corporation for $10 and that
in 2010 you sold the stock for $50. According to the tax law, you have earned a capital gain of $40, which
you must include in your income when computing how much income tax you owe. But suppose the overall
price level doubled from 1980 to 2010. In this case, the $10 you invested in 1980 is equivalent (in terms of
purchasing power) to $20 in 2010. When you sell your stock for $50, you have a real gain (an increase in
purchasing power) of only $30. The tax code, however, does not take account of inflation and assesses you
a tax
on a gain of $40. Thus, inflation exaggerates the size of capital gains and inadvertently increases the tax
burden on this type of income.
Because of these inflation-induced tax changes, higher inflation tends to discourage people from saving.
Recall that the economy’s saving provides the resources for investment, which in turn is a key ingredient to
long-run economic growth. Thus, when inflation raises the tax burden on saving, it tends to depress the
economy’s
long-run growth rate.
19. Money is the yardstick with which we measure economic transactions. When there is inflation, that
yardstick is changing in length. To continue the analogy, suppose that Congress passed a law specifying
that a yard would
equal 36 inches in 2010, 35 inches in 2011, 34 inches in 2012, and so on. Although the law would result in
no ambiguity, it would be highly inconvenient. When someone measured a distance in yards, it would be
necessary to specify whether the measurement was in 2010 yards or 2011 yards; to compare distances
measured in different years, one would need to make an “inflation’’ correction. Similarly, the dollar is a
less useful measure when its value is always changing. The changing value of the dollar requires that we …
For example, a changing price level complicates personal financial planning. One important decision that
all households face is how much of their income to consume today and how much to save for retirement.
Deciding how much to save would be much simpler if people could count on the price level in 30 years
being similar to its level today
20. Unexpected inflation has an effect that is more pernicious than any of the costs of steady, anticipated
inflation
Consider an example. Suppose that Sam Student takes out a $20,000 loan at a 7 percent interest rate from
Bigbank to attend college. In 10 years, the loan will come due. After his debt has compounded for 10 years
at 7 percent, Sam will owe Bigbank $40,000. The real value of this debt will depend on inflation over the
decade. If Sam is lucky, the economy will have a hyperinflation. In this case, wages and prices will rise so
high that Sam will be able to pay the $40,000 debt out of pocket change. By contrast, if the economy goes
through a major deflation, then wages and prices will fall, and Sam will find the $40,000 debt a greater
burden than he anticipated.
This example shows that unexpected changes in prices redistribute wealth among debtors and creditors. A
hyperinflation enriches Sam at the expense of Bigbank because it diminishes the real value of the debt;
Sam can repay the loan in less valuable dollars than he anticipated. Deflation enriches Bigbank at Sam’s
expense because it increases the real value of the debt; in this case, Sam has to repay the loan in more
valuable dollars than he anticipated. If inflation were predictable, then Bigbank and Sam could take
inflation into account when setting the nominal interest rate. (Recall the Fisher effect.) But if inflation is
hard to predict, it imposes risk on Sam and Bigbank that both would prefer to avoid.
21 Finally, in thinking about the costs of inflation, it is important to note a widely documented but little
understood fact: high inflation is variable inflation. That is, countries with high average inflation also tend
to have inflation rates that change greatly from year to year. The implication is that if a country decides to
pursue a high-inflation monetary policy, it will likely have to accept highly variable inflation as well. As
we have just discussed, highly variable inflation increases uncertainty for both creditors and debtors by
subjecting them to arbitrary and potentially large redistributions of wealth.
If a country pursues a high-inflation monetary policy, it will have to bear not only the costs of high
expected inflation but also the arbitrary redistributions of wealth associated with unexpected inflation.
22.

24. These costs lead many economists to conclude that monetary policymakers should aim for zero
inflation. Yet there is another side to the story. Some economists believe that a little bit of inflation—say, 2
or 3 percent per year—can be a good thing.
The argument for moderate inflation starts with the observation that cuts in nominal wages are rare: firms
are reluctant to cut their workers’ nominal wages, and workers are reluctant to accept such cuts. A 2-
percent wage cut in a zero inflation world is, in real terms, the same as a 3-percent raise with 5-percent
inflation, but workers do not always see it that way. The 2-percent wage cut may seem like an insult,
whereas the 3-percent raise is, after all, still a raise. Empirical studies confirm that nominal wages rarely
fall.
This finding suggests that some inflation may make labor markets work better. The supply and demand for
different kinds of labor are always changing. Sometimes an increase in supply or decrease in demand leads
to a fall in the equilibrium real wage for a group of workers. If nominal wages can’t be cut, then the only
way to cut real wages is to allow inflation to do the job. Without inflation, the real wage will be stuck
above the equilibrium level, resulting in higher unemployment
Only a little inflation is needed.