Transcript Chapter 25 - CSUB Home Page

PRINCIPLES OF ECONOMICS
Chapter 25 The Keynesian Perspective
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FIGURE 25.1
Home foreclosures were just one of the many signs
and symptoms of the recent Great Recession. During
that time, many businesses closed and many people
lost their jobs.
BUSINESS CYCLES
The chart tracks the percent change in GDP since 1930.
The magnitude of both recessions and peaks was quite
large between 1930 and 1945.
KEYNESIAN AGGREGATE SUPPLY
The Keynesian View AS is horizontal at levels of output
below potential and vertical at potential output. At potential
output, any decrease in AD causes GDP to decline with no
change in the price level.
THE KEYNESIAN VIEW: WAGE RIGIDITY
Wages are “rigid” or “sticky” downward.
Sticky Wages refers to the downward rigidity
of wages as an explanation for the existence
of unemployment.
At less the full employment, sticky wages
results in sticky prices.
THE KEYNESIAN VIEW: WAGE RIGIDITY
In a recession, the demand for labor and the
demand for goods and services decline.
In the labor market, sticky wages cause
excess supply of labor or unemployment.
In the product market, sticky prices cause
excess supply of goods and services.
THE KEYNESIAN VIEW: WAGE RIGIDITY
THE KEYNESIAN VIEW: WAGE RIGIDITY
Sticky wages are mostly set by labor unions and work
contracts in mid-wage occupations. Data in the aftermath
of the Great Recession suggests that jobs lost were in
mid-wage occupations, while jobs gained were in lowwage occupations.
ECONOMY AT LESS THAN FULL EMPLOYMENT
DEMAND POLICY TO BRING ABOUT RECOVERY
Expansionary fiscal and monetary policies will give
rise to the AD, increasing GDP and price level to
eventually reach full employment.
UNEMPLOYMENT AND INFLATION
The relationship between aggregate
output and general price level is
positive as described by short-run AS.
When the economy produces more
output to reach its potential,
employment and general price level
keeps rising.
The relationship between
unemployment and price level is
negative. When the economy
produces more output to reach its
potential, unemployment declines
while general price level keeps rising.
THE PHILLIPS CURVE
The relationship between inflation rate and
unemployment rate.
It shows that there is a
trade-off between inflation
and unemployment. To
lower the inflation rate, we
must accept a higher
unemployment rate.
THE PHILLIPS CURVE
At point A illustrates an inflation rate of 5% and an
unemployment rate of 4%. If the government attempts to
reduce inflation to 2%, then it will experience a rise in
unemployment to 7%, as shown at point B.
THE PHILLIPS CURVE
In the 1960s, inflation
appeared to respond in a
fairly predictable way to
changes in the
unemployment rate.
Inflation in the 1960s was
“demand-pull.”
THE PHILLIPS CURVE
• But in the 1970s1990s, the Phillips
Curve broke down.
• The points on this
figure show no
particular relationship
between inflation and
unemployment rates.
• Inflation was both
cost-push and
demand-pull.
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THE ACCELERATION HYPOTHESIS
A government attempt to move the economy beyond
potential GDP is only inflationary as workers eventually
get their wages adjusted for price increases. The
economy will stabilize at potential GDP with rising prices.