Assume that the economy starts at the natural level of output. Since 2019, COVID-19 pandemic and the war between Ukraine and Russia substantially lifted global energy prices.
a. Using the wage-setting (WS) and price-setting (PS) diagram (and explaining the intuition of the curves), show what happens to the unemployment rate in the medium run. Why does this happen? (4 marks)
b. Assuming a simple production function, Y=N, where Y is output and N is employment, explain what happens to medium-run equilibrium output. (2 marks)
c. Assume the central bank has an inflation target. In an AS?AD diagram (explaining what lies behind the curves), show and explain what happens to output and inflation in the short run and the medium run. (4 marks)