Created 3/10/1998
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Easing Monetary Policy: Dynamic Effects with Adaptive Expectations

J. Bradford DeLong

What happens if a central bank decides to ease up on inflation--to try to run a lower level of unemployment for each possible level of inflation?

With adaptive expectations, easing policy generates a boom for a while: unemployment declines and GDP rises.

But then inflation picks up. And each increase in inflation calls forth a concommitant upward shift in the short-run Phillips curve because this year's actual inflation is next year's expected inflation.

In the long run unemployment returns to its natural rate, GDP returns to potential, and the only long-run effect of the easing of monetary policy is a permanent jump in inflation.

The Monetary Policy Reaction Function    Easing Policy--Adaptive Expectations    Easing Policy--Rational Expectations  

Professor of Economics J. Bradford DeLong, 601 Evans Hall, #3880
University of California at Berkeley
Berkeley, CA 94720-3880
(510) 643-4027 phone (510) 642-6615 fax

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