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ECON 2H03 > Chapter 10 - Introduction to Economic Fluctuations > Flashcards

Chapter 10 - Introduction to Economic Fluctuations Flashcards

1
Q

define business cycle

what are 3 characteristics

A

fluctuations of aggregate economic activity (expansion, contraction)

characteristics:
1. complete cycle: one extreme point to the next
2. not periodic: no predicted intervals
3. peaks and troughs are turning points

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2
Q

How is aggregate economic activity measured?

A

GDP tracking

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3
Q

On the normal growth path, what happens to GDP in the LR and SR

A

increases in LR, fluctuates in SR

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4
Q

What is the avereage % increase in CAD GDP growth

A

2.8% per year

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5
Q

is consumption or investment more volatile to changes in GDP?

What is order of volatility

A

investment is more volatile
Consumption less volatile: because people use savings to maintain basic standard of living

order of volatility:
investment > GDP > Consumption

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6
Q

Define Okun’s law and the ratio

A

negative relationship b/w GDP and unemployment

With every 1% change in GDP, unemployment changes (negatively) by 0.5% (half)

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7
Q

what is the REAL and ASSUMED equation for change in U rate? What do values represent

A

change(U/L) = -0.33 * %change in Real GDP - 2.88)
- 2.88 average LR growth GDP

change(U?L) = -0.5 * %change real GDP - 2.88

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8
Q

what is the goal of the index of leading economic indicators? What is it used for?

A

goal to forecast changes in economic activity 6-9 months into future (6-9mo)

Used by business/gov to plan/predict recessions, prevent severity

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9
Q

What is similar to all components of LEI index? list some components (10 total)

A

all data is readily available for all to use

Components:
- average workweek manufacturing
- claims received for EI
- new orders for durable goods
- conference board of index of consumer confidence
- index of stock prices
- US leading indicator
- housing index
- money supply
- yield spread (3m t-bill - 3m prime rate)
- index of commodity prices

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10
Q

what is the non-classical model?

A

model in SR, when prices are sticky the market behaves much differently than classical model (LR)

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11
Q

in the non-classical model, what affects demand and what does demand impact

A

demand impacts: output and employment
impacts demand: fiscal policy (G and T), monetary policy (M), other factors (exogenous changes in C or I)

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12
Q

In the very short run (non-classical model)

what is fixed?
What graphically look like?
What does AD determine?

A

fixed: prices inputs&outputs (since already set)
graph:
- SRAS horizontal (since p fixed)
- AD (-slope) determines EQM

Result: AD determines Y (not P, fixed)

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13
Q

the short run (non classical model)

What is fixed?
What graphically look like?
What does AD determine

A

fixed: price of inputs (not output, can react to demand and change SP)
Graphically:
- SRAS positively sloped (P rise, AS rise)
- AD: determines EQM Y and P

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14
Q

the long run (non classical model)

What is fixed?
What graphically look like?
What does AD determine

A

fixed: nothing (flexible and change proportionally)

graphical implication:
LRAS perfectly inelastic (vertical)
AD: determines price level (not Y)

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15
Q

what is the paradigm most mainstream economists and policymakers use to think about economic fluctuations and policies to stabilize the economy?

A

model of AD-AS (non classical)

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16
Q

what does the non classical model show

A

hoe economy behaves in SR and LR, how determine P and Y in SR/LR

17
Q

Define AD curve (nonclassical)
Explain slope
What shifts the AD curve?

A

AD: relationship b/w P and QD output

slope: MV=PY (M,V constant)
tf: P and Y negative relationship (axis)

shifts: money supply determines dollar value (MV=PY) of all transactions since V fixed
- Ms rise –> AD shift right (high Y for each P)
- Ms fall -> AD shift left (low Y for each P)

18
Q

Define LRAS curve (nonclassical)
Explain slope?
What shifts the LRAS curve?
Impact of Ms change (AD)

A

vertical, no relationship b/w Y and P
LR prices increase proportionally (no incentive to increase Y)

slope = infinity
Why? in LR, AS determined by factors (fixed in LR)

shifts LRAS:
- natural disasters -> decrease K,L -> LRAS left

If Ms change -> AD change -> price change & Y unchanged (since LRAS fixed)`

19
Q

Define SRAS curve (nonclassical)
Explain slope?
What shifts the SRAS curve?
Impact of Ms change (AD)

A

SRAS: prices sticky in SR, firms sell as much as possible

slope: SRAS horizontal (slope=0)
- SR: no inflation, P unchanged (Y changes only)

Shifts: if P level changes in SR

Changes in Ms -> change AD -> changes Y (not P since SRAS fixed)

20
Q

How do move from SR to LR?

A

prices become unstuck (can either fall or rise) and adjust to the LR EQM

21
Q

When do prices rise/fall/remain constant when moving from SR to LR?

A

Prices rise: SR EQM Y > Ybar (inflationary gap)
Prices fall: SR EQM Y < Ybar (recessionary gap)
Price constant: SR EQM = Ybar

22
Q

When does LR EQM happen? How does this happen

A

SRAS = LRAS = AD
after SR EQM, economy will adjust back to being equal in LR due to price adjustments

23
Q

what is a shock?

A

an exogenous change in AS or AD that temporarily push economy away from EQM

24
Q

What shocks (shifts) AD curve?

A

M and V changes

25
Q

What happens in a Negative Demand shock?
(examples of shocks, move from SR EQM to LR EQM)

A

Examples of shocks:
- V falls –> AD left
- M rise –> AD left

SR EQM: (after AD shift left)
- AD moves to SRAS (Y1 < Ybar)
- Result: P constant, Y falls (unemployment)

LR EQM: (after Y falls)
- Y1 < Ybar (recessionary gap)
- over time, P falls (and SRAS) to EQM in LR
- LR EQM: where SRAS1 = AD1 = LRAS
- Result: P fall, Y constant

26
Q

What happens in a positive demand shock:
(examples of shocks, move from SR EQM to LR EQM)

A

Examples of shocks:
- V rise –> AD right
- M falls –> AD right

SR EQM: (after AD shift right to R1)
- AD moves to SRAS (Y1 > Ybar)
- Result: P constant, Y rises (employment)

LR EQM: (after Y rises)
- Y1 > Ybar (inflationary gap)
- over time, P rises (and SRAS) to EQM in LR
- LR EQM: where SRAS1 = AD1 = LRAS
- Result: P rises and Y constant

27
Q

What happens in a negative supply shock:
(examples of shocks (4), move from SR EQM to LR EQM)

A

Examples of shocks:
- natural disasters –> SRAS aka P rise
- workers unionize –> SRAS aka P rise
- environmental regulations –> SRAS aka P rise
- price shocks (oil) –> SRAS aka P rise

SR EQM: (after SRAS = P rises to SRAS1)
- SR EQM: where SRAS1 = AD
- Result: P rise (inflation), Y falls (unemployment)

LR EQM: (after Y falls)
- Y1 < Ybar (recessionary gap)
- over time, P falls (and SRAS) to EQM in LR
- LR EQM: where SRAS1 = SRAS = AD = LRAS
- result: P unchanged, Y unchanged

28
Q

4 Examples of negative supply shocks aka price shocks

A
  • natural disasters –> SRAS aka P rise
  • workers unionize –> SRAS aka P rise
  • environmental regulations –> SRAS aka P rise
  • price shocks (oil) –> SRAS aka P rise
29
Q

What happens in a positive supply shock:
(examples of shocks , move from SR EQM to LR EQM)

A

Examples of shocks:
- lower costs and prices –> SRAS aka P fall

SR EQM: (after SRAS falls to SRAS1)
- SR EQM where SRAS1 = AD
- Result: P falls (deflation), Y rises (employment)

LR EQM: (after Y rise, P falls)
- Y1 > Ybar: inflationary gap
- over time, P falls (and SRAS) to EQM in LR
- LR EQM: where SRAS1 = SRAS = AD = LRAS
- Result: P unchanged, Y unchanged

30
Q

How does the government intervene? Why? What policy is used?

A

government intervention uses Monetary policy to return to EQM faster than waiting for markets to correct themselves, by influencing demand to meet at LRAS

31
Q

What is stabilization policy

A

policy actions aimed at reducing the severity of SR economic fluctuations

use of macro policies to attempt to keep output as close to the natural level as possible

32
Q

how does stabilization policy accomodate?

A

as soon as shock occurs, central bank will inflict policy (depends on speed)

33
Q

What impact does government intervention on adverse supply shocks?

How do they influence demand to meet at LRAS

A

Without gov intervention:
- From: A -> B -> A (no P or Y change LR)

With gov intervention:
- From: A -> B -> C (P rise, Y same in LR)

TF: gov intervention with monetary policy to change demand and influence demand to meet at the LRAS
- Result: permanent inflation

34
Q

What is the most favorable shock

A

positive supply shock
- increases production and employment, decreases price

35
Q

What is the lease favorable shock? What is this effect called?

A

adverse supply shock:
- decreases production and employment, increase price

Stagflation: when the economy experiences inflation and unemployment (after adverse supply shock)

ECON 2H03 (8 decks)

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