In the Basic New Keynesian model, the Phillips curve specifies that, when the anticipated future rate of inflation increases, inflation

Question

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In the Basic New Keynesian model, the Phillips curve is given by the equation πt = Etπt+1 - α(u - un), where πt is the current inflation rate, Etπt+1 is the expected inflation rate in the future, u is the unemployment rate, un is the natural rate of unemployment, and α is a parameter that measures the sensitivity of inflation to deviations from the natural rate of unemployment.

The Phillips curve implies that when the anticipated future rate of inflation increases, the current inflation rate also increases, but by less than one-for-one. This is because when firms and workers expect higher inflation, they will adjust their nominal wages and prices upwards, leading to higher inflation. However, the extent of this adjustment will depend on how strongly they react to changes in expected inflation.

Therefore, the answer is C, inflation increases less than one-for-one when the anticipated future rate of inflation increases.

In the Basic New Keynesian Model, the Phillips Curve Specifies