Chapter 6 Flashcards
the Philips curve, the expectations augmented Philips curve, inflation and unemployment relation
Difference between the Philips curve and AS?
The Philips curve links inflation and unemployment, while AS links price and inputs
What type of relationship do unemployment and money wages have?
inverse
Are wages rising/falling if unemployment is above the natural rate?
falling
Two key properties of the expectations-augmented Philips curve:
- Expected inflation maps one-to-one into actual inflation
- Unemployment is at the natural rate when actual inflation equals expected inflation
Where does the expectations augmented Philips curve interest the natural unemployment rate?
At the level of expected inflation
What is stagflation?
high unemployment at the same time as high inflation
What did Robert Lucas argue?
A good economic model should not rely on the public making easily avoidable mistakes
What is the rational expectations model?
Predicts inflation based on information available to the public
If there is over-employment, what does it do to the wage-employment relation?
it shifts it upwards
Three reasons for wage and price stickiness?
- Imperfect information
- Coordination Problems
- Efficiency wages and costs of price changes
What is the insider outsider model?
A prediction that wages will not respond substantially to unemployment and is another explanation as to why we do not quickly return to full employment after a recession
What is a supply shock?
A disturbance to the economy that shifts the aggregate supply curve
What is an adverse supply shock?
A shock that shifts AS to the left, causes prices to increase and output to fall
What are the two types of supply shock?
transitory and not transitory
What happens if a supply shock is transitory?
the cost of production returns to its initial level, AS shifts back
What happens if a supply shock is not transitory?
If the government does not intervene, the higher unemployment forces wages and, thus, the price level down
What are accommodation policies?
Monetary and fiscal policies that increase AD and offset supply shock
What policy can be used in the case of a permanent supply shock?
None, use of policy will only higher prices
What is a favourable supply shock?
Moves the SR AS downwards
What policy can be used on a favourable supply shock?
Contractionary policy measures are appropriate to shift AD to the left
What is the political business cycle theory?
Studies interactions between economic policy decisions and political considerations
What may politicians do to put the business cycle in their favour? (2 things)
- Use restrictive policies early to raise unemployment and lower inflation
- as the election approaches, use expansionary policy to lower unemployment
By how much does one point of extra unemployment reduce inflation in the short run Philips curve?
0.3 points
What is the main argument of rational expectations theory?
Aggregate supply should shift very quickly in response to anticipated changes in AD
Does Canadian evidence support a political business cycle?
no
