The importance of expectation o When/ 0 equals 1, the relation becomes (+z)-u (10.4) So, when 0 =1, the unemployment rate affects not the inflation rate but rather the change in the inflation rate: High unemployment leads to decreasing inflation; low unemployment leads to increase inflation To distinguish equation(10.4)from the original Phillips curve(equation [10.2), it is often called the modified Phillips curve 2003-7-20 92003-7-20 9 The importance of expectation ⚫ When θ equals 1, the relation becomes πt -πt-1 = (μ+z) – αut (10.4) So, when θ =1, the unemployment rate affects not the inflation rate, but rather the change in the inflation rate: High unemployment leads to decreasing inflation; low unemployment leads to increase inflation. To distinguish equation (10.4) from the original Phillips curve (equation [10.2]), it is often called the modified Phillips curve