Global Insight (GI) forecasting firm predicted that the Canadian economy will shrink by 1.4 percent on an annualized basis in the last quarter of 2008 and a further 1.2 percent in the first quarter of 2009. The firm sees substantial job losses as the recession takes hold.
a. What evidence does GI present to support the view that Canada had entered a recession?
b. Use a short-run Phillips curve to explain why the inflation rate may decrease over the course of 2009.
c. Under what circumstances might the inflation rate not decrease during 2009?
a. GI can present the data about increase of unemployment, decrease in real output, consumption and investment to support the view that Canada had entered a recession. b. The Phillips curve is a historical inverse relationship between rates of unemployment and corresponding rates of inflation that result in an economy. Stated simply, decreased unemployment, (i.e., increased levels of employment) in an economy will correlate with higher rates of inflation. So, the inflation rate may decrease over the course of 2009 due to the increase in unemployment. c. The inflation rate may not decrease during 2009, if unemployment will decrease or if there will be a stagflation, a portmanteau of stagnation and inflation, is a term used in economics to describe a situation where the inflation rate is high, the economic growth rate slows down, and unemployment remains steadily high. It raises a dilemma for economic policy since actions designed to lower inflation may exacerbate unemployment, and vice versa.