Keynes and Inflation Flashcards
Cost-Push Inflation main ideas
Inflation is caused by an increase in the price of factors of production (labor). Because of the pricing power of corporations and the bargaining of unions, competing income claims lead firms raising their prices (passing the price of labor on to consumers). This is the slice of the pie thing.
Markup Pricing Equation
P = (Some multiplier)(Wage/Productivity) Firms charge, for example, double the cost of thing’s production. This is derived from (Wage*Number of workers/Output) (the math checks out)
Dynamic Markup Pricing
Inflation = Change in multiplier + Change in wage - change in productivity.
Behavioral Equation for Wages
Change in wage = inverse of unemployment, positive with inflation expectations. When UN is high, no one gets raises. When people expect inflation, they demand higher wages.
How does the behavioral equation show the Phillips curve?
Because wages are a function of unemployment (inversely related), we can see that at higher rates of unemployment the change in wages will be low and so will inflation. Firms pass on higher wage prices to consumers in the form of inflation.
Why are inflationary expectations self-fulfilling?
Because workers want a wage increase if they think that the price level is increasing (they want to keep their real wage constant).
Keynesian Inflation Policy (short run)
Don’t tighten money supply (that will cause a recession), Set wage and price controls.
keynesian Inflation Policy (long run)
Improve productivity growth (education, healthcare). Use some sort of Social Contract like the one they have in Germany?
How does Keynesian Inflation Thinking explain the last 70 years of inflation?
The numbers are quite good. In the 50s, there was an accord between capital and labor that set Wage growth based on Productivity. That broke down in the 60’s, as workers demanded more wage growth, which set off inflation. Also, there was a productivity crisis in the 70s.
How do Keynesians explain Stagflation?
A combo of the cost-push theory and the implicit contract theory.
Implicit Contract Theory
“Invisible Handshake” In order to promote a long-term association between workers and firms, there is wage and price rigidity. Workers want stable wages, and firms don’t want to have to fire people in the short run and then rehire later, so they keep wages stable in a recession and don’t fire anyone, they just have people work less, which lowers productivity and makes inflation go up.
Keynesian view of recessions
They do two things: Blame monetarists and blame expectations.
Criticisms of Keynesian Model
(1) price adjustment tacked on. (2) No good theory of recessions. (3) No foundation of w&p rigidity [this is actually not a true critique]
How does the implicit contract theory lead to stagflation?
Because employers will still give their employees raises even in a recession, which leads to inflation because inflation is all about wages…
