Chapter 14 Flashcards
What Accompanies Inflation in Terms of Wages?
Inflation is generally accompanied by growth in wages and other factor prices, causing the AS curve to shift upward.
What Are the Two Main Components Influencing Wages?
Output gaps and expectations are the two main components influencing wages.
How Do Output Gaps Affect Wages?
Inflationary output gaps tend to cause wages to rise, while recessionary output gaps tend to cause wages to fall, but only slowly.
How Do Expectations of Inflation Affect Wages?
Expectations of inflation tend to cause wage increases equal to the expected price-level increases. These expectations can be backward-looking, forward-looking, or a combination of the two.
What Happens with Constant Inflation and No Supply Shocks?
Expected inflation will eventually equal actual inflation, with no output-gap effect on inflation.
What Conditions Allow Constant Inflation with Real GDP Equal to Y*?
Constant inflation can occur if the AD and AS curves shift upward at the same rate with real GDP equal to Y*.
What Are the Initial Effects of a Positive Demand Shock?
A rise in the price level and a rise in real GDP. Without validation, output returns to potential while the price level rises further.
What Happens with Monetary Validation of a Positive Demand Shock?
Demand inflation proceeds without reducing the inflationary gap, as the AD curve continues to shift upward.
What Are the Initial Effects of a Negative Supply Shock?
A rise in the price level and a fall in real GDP. Without validation, output slowly moves back to potential, and the price level falls to its pre-shock level.
What Happens with Monetary Validation of a Negative Supply Shock?
Supply inflation continues despite a persistent recessionary gap, as the AD curve shifts up.
What Happens if the Bank of Canada Tries to Keep Real GDP Above Y*?
The actual inflation rate will eventually accelerate.
What Causes Sustained Inflation?
Sustained inflation is caused by sustained monetary expansion.
What Are the Phases of Reducing Sustained Inflation?
Phase 1: Ending monetary validation and allowing the AS curve to remove any inflationary gap. Phase 2: A recessionary gap develops as expectations of further inflation cause the AS curve to shift upward. Phase 3: The economy returns to potential output, sometimes aided by a one-time monetary expansion.
What is the Cost of Disinflation?
The recession created in the process, measured by the sacrifice ratio.
How is the Sacrifice Ratio Calculated?
The sacrifice ratio is calculated as the cumulative loss in real GDP (expressed as a percentage of Y*) divided by the reduction in inflation.
What are Temporary and Sustained Inflation?
Temporary inflation results from short-term factors, while sustained inflation is maintained by continuous monetary expansion.
What is the NAIRU?
The Non-Accelerating Inflation Rate of Unemployment (NAIRU) is the unemployment rate at which inflation does not change over time.
What are Forward-Looking and Backward-Looking Expectations?
Forward-looking expectations are based on predictions of future inflation, while backward-looking expectations are based on past inflation rates.
What are the Pressures on Inflation?
Expectational, output-gap, and supply-shock pressures all influence inflation.
What is Monetary Validation?
Monetary validation is the central bank’s action to sustain an existing rate of inflation by adjusting monetary policy in response to demand and supply shocks.
What is the Expectations-Augmented Phillips Curve?
It shows the relationship between inflation and unemployment, taking into account the role of inflation expectations.
What is Accelerating Inflation?
Accelerating inflation occurs when the inflation rate increases over time, often due to continuous monetary expansion.
What is Disinflation?
Disinflation is the process of reducing the rate of inflation.
What is the Sacrifice Ratio?
The sacrifice ratio measures the cost of reducing inflation, calculated as the cumulative loss in real GDP divided by the reduction in inflation.
