.
Second, the challenge to conventional wisdom seems to take it for granted that the United States faces a perfectly elastic supply of imports at given prices in dollars. But the United States has a floating exchange rate; and any effort to promote continued recovery by keeping interest rates low would drive down the dollar and therefore raise import prices in U.S. currency. The normal view of international macroeconomists has been that an open economy with a floating exchange rate faces a steeper tradeoff between unemployment and inflation than a closed economy; it is hard to see why this view should suddenly be abandoned in favor of the idea that an open economy faces no tradeoff at all.
Finally, there are clear recent examples demonstrating that open economies can indeed develop inflation problems if they over expand. The U.S. economy itself found inflation accelerating in the late 1980s as the unemployment rate dropped below 6 percent. Has the structure of the economy really changed so much in five years?.
But this experience pales by comparison with the British experience. The UK is a much more open economy than the United States, so if the idea that globalization prevents inflation works anywhere it should work there. But a rapid UK boom during the late 1980s produced an explosion of inflation, forcing an abrupt U-turn in the country's economic policies. In short, there is no reason to believe that the increased openness of advanced economies has changed the basic logic of the natural rate hypothesis, or that it should lead us to modify the conclusion that a rise in the natural rate, rather than inadequate demand, is the main source of the unemployment problem in advanced economies.
WHY HAS THE NATURAL RATE RISEN?.
A wide variety of explanations have been offered for the apparent rise in the natural rate of unemployment. .
The first part is that persistent high unemployment can be explained by the disincentive effects of welfare state policies.
