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Economics of the NAIRU

Level:
A-Level, IB
Board:
AQA, Edexcel, OCR, IB, Eduqas, WJEC

Last updated 22 Apr 2023

NAIRU stands for Non-Accelerating Inflation Rate of Unemployment. It is the level of unemployment below which the rate of inflation might be expected to accelerate significantly.

Economics of the NAIRU

The NAIRU, or Non-Accelerating Inflation Rate of Unemployment, is the level of unemployment at which inflation is stable or constant in the economy. It represents the rate of unemployment below which inflationary pressures tend to increase, and above which inflationary pressures tend to decrease.

The NAIRU is determined by several factors, including the level of structural unemployment, the degree of labor market flexibility, and the nature of the economy. In the case of the UK, the size of the NAIRU can be influenced by several specific factors:

  1. Demographics: The age and skill level of the workforce can affect the NAIRU. For example, an aging population may result in higher structural unemployment and a higher NAIRU.
  2. Productivity: The level of labor productivity affects the NAIRU, as higher productivity can lead to lower unemployment without causing inflationary pressures.
  3. Wage bargaining power: The power of unions and other labor organizations to negotiate wages can influence the size of the NAIRU. If labor has strong bargaining power, wages may increase even at low levels of unemployment, leading to higher inflation.
  4. Monetary policy: The stance of monetary policy, including interest rates and money supply, can affect the size of the NAIRU. A tighter monetary policy may reduce inflationary pressures and lead to a lower NAIRU.
  5. Supply shocks: External events such as changes in commodity prices, natural disasters, or technological advancements can impact the size of the NAIRU by affecting the economy's overall output and employment.

Overall, the size of the NAIRU is an important concept for policymakers, as it helps to inform decisions around monetary policy and employment. Understanding the factors that influence the NAIRU can assist in developing policies to maintain stable inflation while minimizing unemployment.

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