There is no trade-off between inflation and unemployment when expectations are ________ and policy changes are ________.
A) adaptive; anticipated
B) adaptive; unanticipated
C) rational; anticipated
D) rational; unanticipated

Question

Quizplus · Accepted Answer

The rational expectations theory suggests that individuals make economic decisions based on all available information, including their expectations of future monetary policy changes. When policy changes are anticipated, such as when the central bank announces an interest rate hike in advance, individuals will adjust their expectations accordingly and unemployment and inflation will not move in opposite directions. Additionally, if individuals have rational expectations, they will not be fooled by surprise policy changes, so unanticipated policy changes will not affect the relationship between inflation and unemployment either. Therefore, the only scenario in which there is no trade-off between inflation and unemployment is when expectations are rational and policy changes are anticipated.

There Is No Trade-Off Between Inflation and Unemployment When Expectations