Transcript Chapter 16
1. THE ROLE AND NATURE OF INVESTMENT Learning Objectives 1. Draw a Phillips curve and describe the relationship between inflation and unemployment that it expresses. 2. Describe the other relationships or phases that have been observed between inflation and unemployment. 1.1 The Phillips Curve • The Phillips curve is a curve that suggests a negative relationship between inflation and unemployment. 1.2 The Phillips Curve Goes Awry The Phillips Curve in the 1960’s (U.S.) 1.2 The Phillips Curve Goes Awry When considering Unemployment and Inflation (U.S.) from 1961-2008 the data does not appear consistent with the theory behind the Phillips curve! 1.3 Cycles of Inflation and Unemployment Unemployment and Inflation (U.S.) 1961-2002 Sequential connections suggest a clockwise cyclical pattern 1.3 Cycles of Inflation and Unemployment • The Phillips phase is the period in which inflation rises as unemployment falls. • The stagflation phase is the period in which inflation remains high while unemployment increases. • The recovery phase is a the period in which inflation and unemployment both decline. • The Inflation-unemployment cycle is a pattern consisting of a Phillips phase, followed by stagflation, and then a recovery. 1.3 Cycles of Inflation and Unemployment Phases of the Inflation-Unemployment cycle 2. EXPLAINING INFLATIONUNEMPLOYMENT RELATIONSHIPS Learning Objectives 1. Use the model of aggregate demand and aggregate supply to explain a Phillips phase, a stagflation phase, and a recovery phase. 2.1 The Phillips Phase: Increasing Aggregate Demand 1.09 3 LRAS 1.08 1.07 1.04 1.03 2 AD3 1 1.01 1 0.99 AD1 AD2 2 Inflation rate (percent) Price level 3 1.05 1.02 3 SRAS1,2,3 1.06 Phillips phase 1 2 1 0 0 Real GDP per year (billions of base year dollars) 1 2 3 4 5 6 7 Unemployment rate (percent) 8 9 2.1 The Phillips Phase: Increasing Aggregate Demand The relationship between GDP and unemployment from the previous slide. Real GDP (billions) Rate of unemployment (%) $880 9.0 910 8.0 940 7.0 970 6.0 1,000 5.0 1,030 4.0 1,060 3.0 1,090 2.0 2.2 Changes in Expectations and the Stagflation Phase 3 LRAS 1.09 1.08 4 SRAS4 4 Stagflation phase 1.07 1.04 3 1.03 2 1.02 AD3,4 1 1.01 1 1150 1120 1090 1060 1030 1000 970 940 910 880 850 0.99 Real GDP per year (billions of base year dollars) 2 Inflation rate (percent) 1.05 820 Price level 3 SRAS1,2,3 1.06 Phillips phase 1 2 1 0 0 1 2 3 4 5 6 7 Unemployment rate (percent) 8 9 2.3 The Recovery Phase 4 LRAS 1.09 3 5 AD5 1.08 4 SRAS4 1.07 3 3 1.05 1.04 1.03 AD3,4 2 1 1.01 1 0.99 AD1 2 SRAS1,2,3 AD2 Inflation rate (percent) Price level 1.06 1.02 Stagflation phase 5 Phillips phase 1 2 1 0 0 Real GDP per year (billions of base year dollars) Recovery phase 1 2 3 4 5 6 7 Unemployment rate (percent) 8 9 3. INFLATION AND UNEMPLOYMENT IN THE LONG RUN Learning Objectives 1. Use the equation of exchange to explain what determines the inflation rate in the long run. 2. Explain why in the long run the Phillips curve is vertical. 3. Describe frictional and structural unemployment and the factors that may affect these two types of unemployment. 4. Describe efficiency wage theory and its predictions concerning cyclical unemployment. 3.1 The Inflation Rate in the Long Run EQUATION 3.1 % M % V % P % Y EQUATION 3.2 % P % M % Y EQUATION 3.3 % M % V % P % Y P • Inflation rates and economic growth 3.1 The Inflation Rate in the Long Run 3.2 Unemployment in the Long Run 3.2 Unemployment in the Long Run • Frictional unemployment – A reservation wage is the lowest wage that an unemployed worker would accept, if it were offered. Public Policy and Frictional Unemployment Programs that provide labor market information tend to shift the BOR cures of individual workers to the left, reducing the duration of the job search and unemployment, and increasing the wage. BOR2 BOR1 W2 W1 BOR1 W0 Wage Wage W0 Unemployment compensation tends to increase the duration over which a worker will hold out for a higher wage, shifting the RW curve to the right, increasing unemployment and the wage. W2 W1 RW2 RW1 RW1 t0 t2 t1 Duration of search t0 t1 t2 Duration of search 3.2 Unemployment in the Long Run • Structural unemployment • Cyclical unemployment and efficiency wages – Efficiency wage theory is based on the idea that firms may hold to a real wage greater than the equilibrium wage.