Short-Run Economic Fluctuations Flashcards

1
Q

Definition of Business cycle:

A
  • short-run (year-to-year) fluctuations in an economy’s output and unemployment
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2
Q

Definition of Unemployment rate (U):

A
  • percentage of the labor force without jobs
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3
Q

Potential output (Y*)

A
  • the normal or average level of output, as determined by resources and technology
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4
Q

Definition of Natural rate of unemployment (U*)

A
  • normal or average level of unemployment
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5
Q

Definition of Economic boom:

A
  • period when actual output exceeds potential output
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6
Q

Definition of Recession:

A
  • period when actual output falls below potential output
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7
Q

Output gap (Y~)

A
  • percentage difference between actual and potential output;

(Y -􏰅 Y*)/Y* = Ý

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8
Q

Definition of Okun’s law: (Unemployment Fluctuations)

A
  • Relation between output and unemployment over the business cycle:

the output gap falls by 2 percentage points when unemployment rises 1 point above the natural rate;

(Y -􏰅 Y*)/Y* 􏰀= 􏰅2(U -􏰅 U*)

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9
Q

Effects of aggregate expendeture :

A
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10
Q

Definition of Aggregate expenditure (AE):

A
  • total spending on an economy’s goods and services by people, firms, and governments.
  • These ideas were developed by the British economist John Maynard Keynes in his 1936 book The General Theory of Employment, Interest, and Money.
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11
Q

Equilibrium output: (graph)

A
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12
Q

A shift in monetary policy : (graph)

A
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13
Q

what is “Expenditure shock”?

A
  • event that changes aggregate expenditure for a given interest rate, shifting the AE curve
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14
Q

Types of Expenditure Shocks:

A
  1. Government spending
  2. Taxes
  3. Consumer confidence
  4. New technologies
  5. Changes in bank lending
  6. Foreign business cycles
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15
Q

what is the meaning of Credit crunch

A
  • a sharp reduction in bank lending
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16
Q

how government spending affect the economy ? ( Expenditure Shocks)

A
  • The goverment can create an Expenditure Shocks when it start consuming more and increasing its share of aggregate consume
17
Q

what is “Countercyclical monetary policy”?

A
  • adjustments of the real interest rate by the central bank to offset expenditure shocks and thereby stabilize output
18
Q

Expected inflation formula:

A

pi 􏰀= pie

where “pi” is actual inflation and “pie” is expected inflation.

19
Q

Is adaptive expectations a reasonable assumption?

A

Supporters make two points:

  • For the firm managers who set prices, forecasting that inflation will equal past inflation is an easy shortcut.
  • Although adaptive expectations are not the best possible forecasts, they are fairly good ones, adaptive forecasts of inflation have not been far off.
20
Q

Phillips curve (PC)

A
  • the positive short-run relationship between output and inflation; also, the negative short-run relationship between unemployment and inflation
  • inflation equals expected inflation when output is at potential
  • The key idea behind the Phillips curve is that an economic boom raises inflation and a recession reduces​
21
Q

Phillips curve (PC) graph

22
Q

Why can we draw the Phillips curve in two different ways?

A
  • Okun’s law
  • which tells us that output and unemploy- ment move in opposite directions over the business cycle
23
Q

Output Phillips Curve (formula)

A

pi =􏰀 pie +􏰁 X . (Y - Y*)/ Y* ; (X 􏰄> 0)

  • pi mean inflation
  • pie mean expected inflation
  • X is a positive constant that measures how strongly output affects inflation.
  • Y mean output
  • Y* is potential output
24
Q

Unemployment Phillips Curve: (formula)

A

pi = 􏰀pie - 􏰅2X (U􏰅 - U*)

  • pi mean inflation
  • piemean expected inflation
  • X is a positive constant that measures how strongly output affects inflation.
  • U is the deviation of unemployment from the natural rate.
25
**Output Phillips Curve with Adaptive Expectations (formula)**
**p - pi(-􏰅1) =􏰀 X . (Y - Y\*)/Y\*** * **"pi" mean inflation** * **"pie " mean expected inflation** * **"X" is a positive constant that measures how strongly output affects inflation.** * **Y\* is potential output**
26
Unemployment Phillips Curve with Adaptive Expectations (formula)
**pi -􏰅 pi(􏰅-1) =􏰀 􏰅2X . (U 􏰅- U\*)** * **"pi"** mean inflation * **"pie"** mean expected inflation * **"X"** is a positive constant that measures how strongly output affects inflation. * **"U"** is the deviation of unemployment from the natural rate.
27
what is NAIRU ?
* Acronym for **_nonaccelerating inflation rate of unemployment_**, the unemployment rate that produces a constant inflation rate; another name for the natural rate of unemployment, U\*
28
The definition of Supply shock (v): (with inflation)
* event that causes a major change in firms’ production costs, which in turn causes a short-run change in the inflation rate * An adverse supply shockraises costs * a beneficial supply shock reduces costs
29
**Output Phillips Curve with Supply Shocks (formula)**
**pi =􏰀 pie +􏰁 X . (Y - Y\*)/ Y\* + v** * **pi** mean _inflation_ * **pie ** mean _expected inflation_ * **X** is a positive constant that measures how strongly output affects inflation. * **Y** mean _output_ * **Y\* mean potential output** * **V** mean _supply shock_
30
**Output Phillips Curve with Adaptive Expectations and supply shock (formula)**
**p - pi(-􏰅1) =􏰀 X . (Y - Y\*)/Y\* + v** * **"pi"** mean **_inflation_** * **"pie "** mean **_expected inflation_** * **"X"** is a positive constant that **measures how strongly output affects inflation.** * **"v"** mean **_supply shock_**
31
Aggregate expenditure/ Phillips curve (AE/PC) model
* theory of short-run economic fluctuations that assumes a negative relationship between the interest rate and output (the AE curve) and a positive relationship between output and inflation (the Phillips curve)
32
The Complete Economy:graph
33
what is **"Accommodative monetary policy"**?
* decision by the central bank to keep the real interest rate constant when a supply shock occurs, allowing inflation to change. * An accommodative monetary policy allows a supply shock to raise inflation permanently.
34
what is **"Nonaccommodative monetary policy"**?
* decision by the central bank to adjust the interest rate to offset a supply shock and keep inflation constant.
35
what is "Disinflation" to the central bank ?
* monetary policy of reducing inflation by temporarily raising the real interest rate. * a temporary fall in output reduces inflation permanently
36
Definition of "Long-run monetary neutrality" ?
* principle that monetary policy cannot permanently affect real variables (variables adjusted for inflation)
37
what is the Neutral real interest rate (rn)?
* the real interest rate that makes output equal potential output, given the aggregate expenditure curve
38
what is the meaning of **Hysteresis**?
* theory that the short-run path of a variable, such as unemployment, affects its long-run level, such as the natural rate of unemployment