aggregate supply, unemployment and inflation
TRANSCRIPT
Aggregate Supply,Aggregate Supply,UnemploymentUnemployment
and Inflationand Inflation
Aggregate Supply, Unemployment and InflationAggregate Supply, Unemployment and Inflation
Aggregate SupplyAggregate Supply
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Different views on the shape of the AS curve
O
Pric
e le
vel
National output
P
AS
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
O
AD1
Pric
e le
vel
National output
Y1
P
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
AS
YF
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
Contrasting views on the aggregate supply curve:(a) Extreme Keynesian
O Y1
Pric
e le
vel
National output
AD2
P
AS
YFY2
AD1
O
AS
Pric
e le
vel
National output
Y
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
AS
P1
O
Pric
e le
vel
National output
AD1
Y
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
Contrasting views on the aggregate supply curve:(b) Extreme Monetarist / New Classical
AS
O
P1
Pric
e le
vel
National output
AD2
P2
Y
AD1
O
Pric
e le
vel
National output
AS
Contrasting views on the aggregate supply curve:(c) Moderate view
Contrasting views on the aggregate supply curve:(c) Moderate view
Contrasting views on the aggregate supply curve:(c) Moderate view
Contrasting views on the aggregate supply curve:(c) Moderate view
O
AS
Pric
e le
vel
National output
Y1
P1
AD1
Contrasting views on the aggregate supply curve:(c) Moderate view
Contrasting views on the aggregate supply curve:(c) Moderate view
P2
O
AS
Y1
Pric
e le
vel
National output
Y2
P1
AD2
AD1
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
• Different views on the shape of the AS curve
• Short-run aggregate supply
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
Q1
Short-run response of a profit-maximising firmto a rise in demand
Short-run response of a profit-maximising firmto a rise in demand
MC
AR1
MR1
£
Q
P1
AR1
MR1
P1
Q1
AR2
MR2
£
Q
MC
Short-run response of a profit-maximising firmto a rise in demand
Short-run response of a profit-maximising firmto a rise in demand
MR1
P1
Q1 MR2Q2
P2
£
Q
MC
Short-run response of a profit-maximising firmto a rise in demand
Short-run response of a profit-maximising firmto a rise in demand
AR1
AR2
AS short run
The short-run aggregate supply curveThe short-run aggregate supply curve
National output
AD1
P1
Y1
AD2
P2
Y2
AD3
P3
Y3
Pri
ce le
vel
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
AS (long run) AS2 (short run)
AD1
Pri
ce le
vel
National output
a
AD2
bc
AS1 (short run)
The long-run AS curve when firms are interdependentThe long-run AS curve when firms are interdependent
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
– investment
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
– investment
Effect of investment on the long-run AS curveEffect of investment on the long-run AS curve
AD1
Pri
ce le
vel
National output
a
AS1 (short run)
AS (long run)
AS2 (short run)
AD1
Pri
ce le
vel
National output
a
AD2
b
d
AS1 (short run)
Effect of investment on the long-run AS curveEffect of investment on the long-run AS curve
AGGREGATE SUPPLYAGGREGATE SUPPLY
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
– investment
– expectations
• Different views on the shape of the AS curve
• Short-run aggregate supply
– the microeconomic foundations
• Long-run aggregate supply
– the interdependence of firms
– investment
– expectations
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
• LRAS: monetarist / new classical model– flexible real wage rates
ASL
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
ADL
We
Qe
N
a b
The aggregate labour market: Monetarist / New Classical analysisThe aggregate labour market: Monetarist / New Classical analysis
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
ADL
We
Qe
a b
Assume nowthat AD rises
NASL
The aggregate labour market: Monetarist / New Classical analysisThe aggregate labour market: Monetarist / New Classical analysis
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
ADL
We
Qe
a b
Prices rise.Real wage rate
falls below We
e.g. to W1
W1
NASL
The aggregate labour market: Monetarist / New Classical analysisThe aggregate labour market: Monetarist / New Classical analysis
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
ADL
We
Qe
a b
This gives anexcess demand
for labour of d c.Real wage rate
will rise back to We
c dW1
NASL
The aggregate labour market: Monetarist / New Classical analysisThe aggregate labour market: Monetarist / New Classical analysis
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
ADL
We
Qe
a b
NASL
The aggregate labour market: Monetarist / New Classical analysisThe aggregate labour market: Monetarist / New Classical analysis
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
N
ADL1
ASL
Keynesian analysis of the aggregate labour market: fall in ADLKeynesian analysis of the aggregate labour market: fall in ADL
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
We
Qe
a b
ADL2
Q2
Assumption:wage rates are
sticky downwardsc
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
Keynesian analysis of the aggregate labour market: hysteresisKeynesian analysis of the aggregate labour market: hysteresis
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
We
Qe
a b
ADL1ADL2
c
Q2
Assume that thereis now a recovery:
ADL rises back to ADL1.
NASL
O
Number of workers
Re
al w
ag
e ra
te (
W /
P)
We
Qe
a b
ADL1ADL2
c
Q2
There will be amovement up
along ASL2
ASL2
d eWe2
Keynesian analysis of the aggregate labour market: hysteresisKeynesian analysis of the aggregate labour market: hysteresis
NASL
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
– expectations of output changes
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
– expectations of output changes
AGGREGATE SUPPLYAGGREGATE SUPPLY
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
– expectations of output changes
– long-run money illusion
• LRAS: monetarist / new classical model– flexible real wage rates
– no money illusion
– natural level of unemployment
– implications for shape of LRAS
• LRAS: Keynesian models– wage and price rigidity
– hysteresis
– expectations of output changes
– long-run money illusion
AGGREGATE SUPPLYAGGREGATE SUPPLY
• AS, AD and inflation
– demand-pull inflation
• AS, AD and inflation
– demand-pull inflation
O
National output
Pri
ce le
vel
AS
ADAD1
P1b
AD2
Subsequentsupply response
AS1
P2
P3
aP0
d
c
Demand-pull inflationDemand-pull inflation
O
National output
Pri
ce le
vel
AS
AD
P0
AD1
P1
a
b
AD2
c
Subsequentdemand response
AS1
d
P2
P3
AD3
P4
e
Demand-pull inflationDemand-pull inflation
O
National output
Pri
ce le
vel
AS
AD
P0
AD1
P1
a
b
AD2
c
AS1
d
P2
P3
AD3
P4
e
Subsequentsupply response
AS2
P5f
Demand-pull inflationDemand-pull inflation
O
National output
Pri
ce le
vel
AS
AD
P0
AD1
P1
a
b
AD2
c
AS1
d
P2
P3
AD3
P4
e
AD4
Subsequentdemand response
AS2
fP5
P6
g
Demand-pull inflationDemand-pull inflation
AGGREGATE SUPPLYAGGREGATE SUPPLY
• AS, AD and inflation
– demand-pull inflation
– cost-push inflation
• AS, AD and inflation
– demand-pull inflation
– cost-push inflation
O
National output
Pri
ce le
vel
AS
ADAD1
P1
AS1
P2
P3
Subsequentdemand response
AS2
d
P0
ab
c
Cost-push inflationCost-push inflation
O
National output
Pri
ce le
vel
AS
AD
P0
AD1
P1 ab
c
AS1
d
P2
P3
P4 Subsequentsupply response
AS2
AS3
e
Cost-push inflationCost-push inflation
AGGREGATE SUPPLYAGGREGATE SUPPLY
• AS, AD and inflation
– demand-pull inflation
– cost-push inflation
– what causes inflation in practice?
• AS, AD and inflation
– demand-pull inflation
– cost-push inflation
– what causes inflation in practice?
Expectations Augmented Phillips
Curve
Expectations Augmented Phillips
Curve
Aggregate Supply, Unemployment and InflationAggregate Supply, Unemployment and Inflation
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
0
4
8
12
16
20
0
P (%).
U (%)6 8I (Pe = 0)
.
b
The accelerationist theory of inflationThe accelerationist theory of inflation
a
IV (Pe = 12%).
III (Pe = 8%).
II (Pe = 4%)
P (%).
U (%)6
a
b c
d
8I (Pe = 0)
.
.
e
The accelerationist theory of inflationThe accelerationist theory of inflation
f
0
4
8
12
16
20
0
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
– the long-run Phillips curve
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
– the long-run Phillips curve
Un
0
4
8
12
16
20
0
P (%).
U (%)6 8
The long-run Phillips curveThe long-run Phillips curve
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
– the long-run Phillips curve
– effects of deflationary policies
• Incorporating expectations into a Phillips equation
• Adaptive expectations
• The accelerationist theory
– attempting to reduce unemployment below the ‘natural’ level
– the long-run Phillips curve
– effects of deflationary policies
0
2
4
6
8
10
12
14
16
18
20
22
24
0
P (%).
U (%)8 13
J
X (Pe = 20%).
k
The effects of deflationThe effects of deflation
0
2
4
6
8
10
12
14
16
18
20
22
24
0
P (%).
U (%)8 13
k
X (Pe = 20%).
XI (Pe = 18%).
XII (Pe = 16%).
l
J
m
The effects of deflationThe effects of deflation
0
2
4
6
8
10
12
14
16
18
20
22
24
0
P (%).
U (%)8 13
k
l
m
a
J
The effects of deflationThe effects of deflation
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
Year 20
20
0
P (%).
U (%)Un
ab
c
Year 0, 1
Clockwise Phillips loopsClockwise Phillips loops
Year 5
Year 4
0
20
0
P (%).
U (%)Un
ab
c
d
ef
Year 0, 1
Year 2
Year 3
Clockwise Phillips loopsClockwise Phillips loops
0
20
0
P (%).
U (%)Un
ab
c
d
ef
h
i
J
Year 0, 1, 10
Year 2, 9
Year 3, 8
Year 4, 7
Year 5, 8
Clockwise Phillips loopsClockwise Phillips loops
g
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
• Policy implications of the model
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
• Policy implications of the model
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
• Policy implications of the model
– shifting the long-run Phillips curve
• How quickly can inflation be eliminated?
– the ‘short, sharp shock’
– the slow route
• Explanations of stagflation
– clockwise Phillips loops
– rightward shifts in the long-run Phillips curve
• Policy implications of the model
– shifting the long-run Phillips curve
EXPECTATIONS AUGMENTED PHILLIPS CURVEEXPECTATIONS AUGMENTED PHILLIPS CURVE
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
0
2
4
6
8
10
12
14
16
18
20
22
24
26
0 1 2 3 4 5 6 7 8 9 10 11 12 13
75
74
8076
77
79
7173
7278
90
89
97
96
9188
95
82
8384
85
86
93
8792
94
81
Inflation (%)
Unemployment (%)
99
98
Phillips loops in the UK?Phillips loops in the UK?
0001
02
Rational Expectations and the Phillips CurveRational Expectations and the Phillips Curve
Aggregate Supply, Unemployment and InflationAggregate Supply, Unemployment and Inflation
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
• Assumptions
– flexible wages and prices
– rational expectations
• Aggregate supply & the Phillips curve: when expectations are correct
– short-run vertical AS curve
• Assumptions
– flexible wages and prices
– rational expectations
• Aggregate supply & the Phillips curve: when expectations are correct
– short-run vertical AS curve
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
Q1
AD2
a
P2
Q2
P1
(a) Adaptiveexpectationsb
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
P1
Q1
AD2
a
bP2
Q2
SRAS2
(expected price level = P3 )
P3
(a) Adaptiveexpectations
c
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
P1
Qn
AD2
a
bP2
Q2
SRAS2
(expected price level = P3 )
cP3
LRAS
(a) Adaptiveexpectations
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
Q1
P1
(b) Rationalexpectations
AD2
a
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
Q1
aP1
AD2
SRAS2
(expected price level = P3 )
P3
c
(b) Rationalexpectations
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
aP1
AD2
SRAS2
(expected price level = P3 )
cP3
Qn
LRAS = SRAS actual
(b) Rationalexpectations
The effects of an increase in aggregate demandThe effects of an increase in aggregate demand
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
• Assumptions
– flexible wages and prices
– rational expectations
• Aggregate supply & the Phillips curve: when expectations are correct
– short-run vertical AS curve
– short-run vertical Phillips curve
• Assumptions
– flexible wages and prices
– rational expectations
• Aggregate supply & the Phillips curve: when expectations are correct
– short-run vertical AS curve
– short-run vertical Phillips curve
• Aggregate supply & the Phillips curve: when expectations are incorrect
– the goods market
• Aggregate supply & the Phillips curve: when expectations are incorrect
– the goods market
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
P1
Qn
a
Q3
AD2
SRAS2
(expected price level = P2 )
P3
LRAS
P2
How a rise in aggregate demand could cause a rise in national output
How a rise in aggregate demand could cause a rise in national output
AD3
b
O
Pri
ce le
vel
National output
AD1
SRAS1
(expected price level = P1)
P1
Qn
a
Q3
AD2
SRAS2
(expected price level = P2 )
P3
LRAS
P2
How a rise in aggregate demand could cause a fall in national output
How a rise in aggregate demand could cause a fall in national output
AD3
c
• Aggregate supply & the Phillips curve: when expectations are incorrect
– the goods market
– the labour market
• Aggregate supply & the Phillips curve: when expectations are incorrect
– the goods market
– the labour market
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
ASL2 ((W / P )e > W / P )
O
Re
al w
ag
e ra
te (
W /
P)
Number of workers
ADL
Q1
Underpredictionof inflation
Q2
ASL1 ((W / P )e = W / P )
Effects in the labour market of an underprediction of inflationEffects in the labour market of an underprediction of inflation
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
– turning points
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
– turning points
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
O
Infla
tion
(%)
Unemployment (%)
P e = P
. .P
e > P. .
P e < P
. .
New classical version of short-run Phillips curvesNew classical version of short-run Phillips curves
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
– turning points
• Aggregate supply & the Phillips curve: when expectations are incorrect– the goods market
– the labour market
– implications for the Phillips curve
• Policy implications of rational expectations
• Real business cycles– persistent shifts in aggregate supply
– turning points
RATIONAL EXPECTATIONS AND THE PHILLIPS CURVERATIONAL EXPECTATIONS AND THE PHILLIPS CURVE
Modern Keynesian Views
Modern Keynesian Views
Aggregate Supply, Unemployment and InflationAggregate Supply, Unemployment and Inflation
MODERN KEYNESIAN VIEWSMODERN KEYNESIAN VIEWS
• Modern developments of the Keynesian model
• Growth in equilibrium unemployment
– higher structural unemployment
– hysteresis
• The persistence of demand-deficient unemployment
– payment of efficiency wages
– insider power
• Modern developments of the Keynesian model
• Growth in equilibrium unemployment
– higher structural unemployment
– hysteresis
• The persistence of demand-deficient unemployment
– payment of efficiency wages
– insider power
MODERN KEYNESIAN VIEWSMODERN KEYNESIAN VIEWS
• Incorporation of expectations
– expansion of aggregate demand
• Incorporation of expectations
– expansion of aggregate demand
O
Infla
tion
(%)
Unemployment (%)
U1
P1
.
I
II
Z
U2
P2
.c
a
b
Keynesian analysis of reflationary policiesKeynesian analysis of reflationary policies
MODERN KEYNESIAN VIEWSMODERN KEYNESIAN VIEWS
• Incorporation of expectations
– expansion of aggregate demand
– contraction of aggregate demand
• Incorporation of expectations
– expansion of aggregate demand
– contraction of aggregate demand
O
Infla
tion
(%)
Unemployment (%)
I
U2
b
U1
a
Keynesian analysis of deflationary policiesKeynesian analysis of deflationary policies
L
O
Infla
tion
(%)
Unemployment (%)
U1
Ia
b
U2
c
Keynesian analysis of deflationary policiesKeynesian analysis of deflationary policies
MODERN KEYNESIAN VIEWSMODERN KEYNESIAN VIEWS
• Incorporation of expectations
– expansion of aggregate demand
– contraction of aggregate demand
• Keynesian criticisms ofnon-intervention
• Incorporation of expectations
– expansion of aggregate demand
– contraction of aggregate demand
• Keynesian criticisms ofnon-intervention
Common Ground Among Economists?
Common Ground Among Economists?
Aggregate Supply, Unemployment and InflationAggregate Supply, Unemployment and Inflation
COMMON GROUND AMONG ECONOMISTS?COMMON GROUND AMONG ECONOMISTS?
• Short-run effects of changes in aggregate demand
• Long-run effects of changes in aggregate demand
• Role of expectations
• Importance of supply-side factors
• Short-run effects of changes in aggregate demand
• Long-run effects of changes in aggregate demand
• Role of expectations
• Importance of supply-side factors