natural rate of unemployment

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Non-Accelerating Inflation Rate of Unemployment

Also called NAIRU. The unemployment rate in an economy below which inflation will begin to rise. The idea behind NAIRU states that a certain unemployment rate is built in to an economy. If unemployment falls too far, the economy will begin to overheat and inflation will rise. This analysis is highly controversial; some economists hold full employment is possible without these negative side effects. Milton Friedman was a major proponent of the NAIRU idea. See also: Phillips curve.
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Fig. 134 Natural rate of unemployment. Phillips curve depicting the natural rate of unemployment.

natural rate of unemployment

the underlying rate of UNEMPLOYMENT below which it is not possible to reduce unemployment further without increasing the rate of INFLATION. The term ‘natural rate of unemployment’ is often used synonymously with the NON-ACCELERATING INFLATION RATE OF UNEMPLOYMENT (NAIRU).

The natural rate of unemployment can be depicted by reference to the PHILLIPS CURVE.

In Fig. 134, the rate of unemployment is shown on the horizontal axis and the rate of inflation is shown on the vertical axis, with the Phillips curve showing the ‘trade-off between unemployment and inflation. Point X, where the Phillips curve intersects the horizontal axis, depicts the natural rate of unemployment. If unemployment is pushed below the natural rate of unemployment (currently estimated at around 5% in the UK), then inflation starts to accelerate. The natural rate of unemployment includes FRICTIONAL UNEMPLOYMENT, STRUCTURAL UNEMPLOYMENT and, in particular, ‘voluntary’ unemployment (people who are out of work because they are not prepared to take work at the ‘going’ wage rate). See main UNEMPLOYMENT entry for further discussion.

However, the term ‘natural’ rate of unemployment is somewhat a misnomer insofar as it implies that it is ‘immutable’. This is far from the case, as the natural rate of unemployment can vary between countries and also within countries over time. Structural unemployment, for example, can be reduced by training schemes that improve occupational mobility while ‘voluntary’ unemployment can be reduced by lowering the ‘cushion’ of social security benefits and improving incentives to work (e.g. the Working Families’ Tax Credit Scheme). See EXPECTATIONS-ADJUSTED/AUGMENTED PHILLIPS CURVE.

Collins Dictionary of Economics, 4th ed. © C. Pass, B. Lowes, L. Davies 2005
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Case 2: The central bank seeks to minimize a loss function that is consistent with the natural rate hypothesis but continues to assume that the public has static inflationary expectations.
According to the natural rate hypothesis, the natural rate of unemployment is independent of fiscal and monetary policy.
As would be expected from his work on the natural rate hypothesis (Friedman, 1968), Friedman interpreted the full-employment objective as a stabilization objective--that is, minimizing fluctuations in the output gap.
Friedman's formulation of the natural rate hypothesis with the expectations-augmented Phillips curve yielded testable implications.
The tests provide essentially the same support for the natural rate hypothesis for the group of European countries.
According to a simple version of the natural rate hypothesis, the NAIRU is immune to the conduct of monetary policy.
Recently there has been a considerable research interest in investigating the natural rate hypothesis. Froyen and Waud (1980) examined this hypothesis for 10 highly industrialized countries using the methodology (with some modifications) originally modelled and implemented by Lucas (1973) for a group of 18 countries.
We should therefore differentiate between Friedman's Natural Rate Hypothesis (NRH) and the NIRU hypothesis, showing that the inflation rate is zero in the vertical case, and that the ...
"Empirical Evidence on the Natural Rate Hypothesis and Fisher Effect for the U.S.: 1953-1978," Journal of Economics and Business, 34, 1982, pp.
To complicate matters further, the natural rate hypothesis is typically stated as a knife-edge phenomenon, that is, if unemployment is above the natural rate, the inflation rate would decline, while if unemployment falls below the natural rate, inflation would spiral out of control.
If, the Phillips Curve were vertical over this sixteen year period, one should have observed no causality between the unemployment rate and the rate of inflation (the natural rate hypothesis, i.e., any rate of inflation can be associated with the natural rate of unemployment).
Unlike traditional efficiency wage models, such a model is consistent with the natural rate hypothesis in which the unemployment rate eventually returns to the natural rate of unemployment after a deflationary shock.

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