The optimal Inflation Target with respect to Swedish Unemployment

Sammanfattning: The rise in unemployment experienced by Sweden in recent decades is assumed to be uncorrelated with the low rate of inflation. The generally accepted theory of a long-run vertical Phillips curve has lately been questioned by studies that show that a long-run trade-off between inflation and unemployment may exist at low levels of inflation. This is due to the fact that people choose to ignore, or not to fully take into account, inflation at low levels. The concept is called 'near-rationality'. Our thesis examines whether a long-run effect exists and what the optimal inflation target for Sweden is, taking into account the welfare costs of inflation and unemployment. We find that there is evidence of a long-run trade-off between inflation and unemployment and that, on this basis, it would be beneficial to increase the target inflation rate to between 2.5 and 2.8 percent from the 2 percent target being pursued today.