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Question 1:

Markups

Suppose that the firms' markup over costs is 50%. The (medium-run) wage-setting equation is (1-u)2z where u is the unemployment rate, W is the nominal wage, P is the price level and z represent other factors affecting wage bargains.

a. What is the real wage as determined by price-setting equation?

b. What is the natural rate of unemployment, when .8?

c. Suppose that the markup decreases to 40%. What will happen to the natural rate of unemployment? Explain what may cause the markup to decrease.

d. Suppose the proportion of part-time workers in the economy decreased. What effect would that have on the relative bargaining power of workers, and thus on z and the natural rate of unemployment?

e. What value of z would restore the natural rate of unemployment obtained in part b.?

Use a diagram to illustrate your answers.

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