Transcript Economics: Principles and Applications, 2e by Robert E. Hall & Marc

Economics: Principles and
Applications, 2e
by Robert E. Hall &
Marc Lieberman
© 2001 South-Western, a division of Thomson Learning
Economic Fluctuations
© 2001 South-Western, a division of Thomson Learning
Can the Classical Model
Explain Economic
Fluctuations?
•Shifts in Labor Demand
•Shifts in Labor Supply
•Verdict: The Classical Model Cannot Explain
Economic Fluctuations
© 2001 South-Western, a division of Thomson Learning
Can the Classical Model
Explain Economic
Fluctuations?
Because shifts in the labor demand curve are
not very large from year to year, the classical
model cannot explain real-world economic
fluctuations through shifts in labor demand.
© 2001 South-Western, a division of Thomson Learning
Can the Classical Model
Explain Economic
Fluctuations?
Because sudden shifts of the labor supply curve are
unlikely to occur, and because they could not
accurately describe the facts of the economic cycle,
the classical model cannot explain fluctuations
through shifts in the supply of labor.
© 2001 South-Western, a division of Thomson Learning
Can the Classical Model
Explain Economic
Fluctuations?
We cannot explain the facts of short-run economic
fluctuations with a model in which the labor market
always clears. This is why the classical model,
which assumes that the market always clears, does
a poor job of explaining the economy in the short
run.
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Economic Fluctuations:
A More Realistic View
•Opportunity Costs and Labor Supply
•Firms’ Benefits from Hiring: The Labor Demand Curve
•The Meaning of Labor Market Equilibrium
•The Labor Market When Output Is Below Potential
•The Labor Market When Output Is Above Potential
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Economic Fluctuations:
A More Realistic View
Disequilibrium
A situation in which a market does not clear-quantity supplied is not equal to quantity
demanded.
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Economic Fluctuations:
A More Realistic View
At every point along the labor supply curve,
the wage rate tells us the opportunity cost of
working for the last worker to enter the labor
force.
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Economic Fluctuations:
A More Realistic View
At every point along the labor demand curve,
the wage rate tells us the benefit obtained by
some firm from the last worker hired.
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Economic Fluctuations:
A More Realistic View
At the equilibrium level of employment, all
opportunities for mutually beneficial trade in
the labor market have been exploited.
© 2001 South-Western, a division of Thomson Learning
Economic Fluctuations:
A More Realistic View
During a recession, the labor market is in
disequilibrium, and the benefit from hiring
another worker exceeds the opportunity cost
to that worker.
© 2001 South-Western, a division of Thomson Learning
Economic Fluctuations:
A More Realistic View
In recessions, there are incentives to increase the
level of employment because the benefit to firms
from additional employment exceeds the
opportunity cost to workers. These incentives help
explain why recessions do not last forever.
© 2001 South-Western, a division of Thomson Learning
Economic Fluctuations:
A More Realistic View
In booms, there are incentives to decrease the level
of employment because the benefit to firms from
some who have been hired is smaller than the
opportunity cost to those workers. These incentives
help explain why booms do not last forever.
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What Triggers
Economic Fluctuations?
•A Very Simple Economy
•The Real-World Economy
•Shocks That Push the Economy Away from
Equilibrium
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What Triggers
Economic Fluctuations?
In the short run, we need to look carefully at
the problems of coordinating production,
trade, and consumption in an economy with
hundreds of millions of people and tens of
millions of businesses.
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What Triggers
Economic Fluctuations?
Spending Shock
A change in spending that ultimately affects
the entire economy.
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The Economics
of Slow Adjustment
•Adjustment in a Boom
•Adjustment in a Recession
•The Speed of Adjustment
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The Economics
of Slow Adjustment
When a positive shock causes a boom, firms
operate--temporarily--at above-normal rates
of utilization. As a consequence, employment
rises above its normal, full-employment level.
© 2001 South-Western, a division of Thomson Learning
The Economics
of Slow Adjustment
Over time, firms that have experienced an
increase in demand will return to normal
utilization rates, and employment will fall
back to its normal, full-employment level.
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The Economics
of Slow Adjustment
When an adverse shock causes a recession,
firms operate--temporarily--at below-normal
rates of utilization. As a consequence,
employment drops below its normal, fullemployment level.
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The Economics
of Slow Adjustment
Over time, firms that have experienced a
decrease in demand will return to normal
utilization rates, and employment will rise
back to its normal, full-employment level.
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The Economics
of Slow Adjustment
Job-searching behavior by firms and workers
is just one explanation for the slow pace of
adjustment back to full employment.
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Where Do We
Go from Here?
In the short run, we have seen that spending shocks
to the economy affect production--usually in one
specific sector. If we want to understand
fluctuations, we need to take a close look at
spending.
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