What Is the Non-Accelerating Inflation Rate of Unemployment? (NAIRU)
The Non-Accelerating Inflation Rate of Unemployment (NAIRU) marks a key threshold in economics where unemployment resides at a level that does not spur an increase in inflation. It epitomizes the equilibrium point highly regarded for economic stability, where inflation remains constant as unemployment is at an optimal rate for the economy.
Key Takeaways
- Equilibrium Level: NAIRU is the lowest level of unemployment before inflation starts to rise.
- Adjusting Dynamics: At NAIRU, inflation remains steady; with higher unemployment, inflation eases; lower unemployment leads to inflationary pressure.
- Estimates and Calculations: The Federal Reserve estimates NAIRU to reside between 5% and 6% unemployment, relying on statistical models.
- Impact on Fed Policy: This assessment of the NAIRU level directs the Federal Reserve’s dual mandates: maximum employment and price stability.
- Limitations: NAIRU overlooks diverse factors influencing unemployment and may show discrepancies if historical inflation-unemployment correlations shift.
How NAIRU Works
Though NAIRU lacks a direct formula, the Federal Reserve uses statistical analyses to estimate it between 5% and 6%. The NAIRU plays a pivotal role in guiding the Fed’s twin aims of achieving maximum employment and ensuring price stability. For instance, when inflation targets such as 2% seem threatened by rapid price increases due to a flourishing economy, the Fed may adjust monetary policies to cool the economy down.
Understanding NAIRU
At the core of NAIRU’s insight is the presumed inverse relationship between unemployment and inflation: higher unemployment lowers inflation, while lower unemployment elevates it. An economy struggling with poor performance sees diminishing inflation as companies lower prices to stoke consumer demand. Conversely, during booming periods, companies can raise prices to meet swelling consumer demand, fueling inflation. NAIRU marks that precise unemployment level averting a rise in inflation.
Origins of NAIRU
Introduced by Franco Modigliani and Lucas Papademos in 1975 as
Related Terms: unemployment, inflation, Phillips Curve, natural rate of unemployment.
References
- Board of Governors of the Federal Reserve System. “What is the lowest level of unemployment that the U.S. economy can sustain”?
- Federal Reserve Bank of Philadelphia. “NAIRU Estimates from the Board of Governors”.
- Federal Reserve Bank of St. Louis. “Natural Rate of Unemployment (Long-Term)”.
- Federal Reserve Bank of Chicago. “The Federal Reserve’s Dual Mandate”.
- Board of Governors of the Federal Reserve System. “What are the Federal Reserve’s objectives in conducting monetary policy”?
- Wiley Online Library. “The Relation Between Unemployment and the Rate of Change of Money Wage Rates in the United Kingdom, 1861–1957”.
- Federal Reserve Bank of St. Louis. “Unemployment Rate”.
- Federal Reserve Bank of St. Louis. “Inflation, consumer prices for the United States”.
- Federal Reserve Bank of San Francisco. “Nobel Views on Inflation and Unemployment”.
- The Brookings Institution. “Targets for Monetary Policy in the Coming Year”, Pages 141-142.
- The Nobel Prize. “Press Release - 14 October 1976”.
