Chapter 10: Intro To Economic Fluctuations

University:
McMaster University
Course:
ECON 1BA3 | Introductory Macroeconomics for Economics Students
Academic year:

2023
Views:

254

Pages:

5
Author:

Usman Tahir

Chapter 10: Intro To Economic Fluctuations Facts About the Business cycle: GDP growth in Canada averages 2.8 percent per year over the long run, with large fluctuations in the short run. Consumption and investment fluctuate with GDP, but consumption tends to be less volatile and investment more volatile than GDP. Unemployment rises during recessions and falls during expansions. Okun’s law : the negative relationship between GDP and unemployment Aggregate economic activity details in a contraction or recession until it reaches a trough After a trough, activity increases in an expansion until it reaches a peak Peaks and troughs are turning points Depression is a severe recession Components of LEI Index Average workweek in manufacturing Claims received for employment insurance New orders for durable goods Conference Board of Canada’s Index of Consumer Confidence Index of stock prices U.S. leading indicator Housing index Money supply Yield spread: three-month Treasury bill and prime rate Index of commodity price Time Horizons in Macroeconomics Long Run: Prices are flexible, responding to changes in supply or demand Short Run: Many prices are sticky at a predetermined level Economy behaves differently when prices are sticky* Classical Macro Theory Output is determined by supply side: Supplies of capital, labor, technology Changes in demand for goods and services (C,I,G) only affect prices, not quantities Assumes complete price flexibility Applies to long run When Prices are Sticky Output and employment also depend on demand, which is affected by: Fiscal policy (G and T) Monetary Policy (M) Other factors, like exogenous changes in C or I The Model Of Aggregate Demand and Supply The paradigm most mainstream economists and policymakers use to think about economic fluctuations and policies to stabilize the economy shows how the price level and aggregate output are determined Shows how the economy’s behaviour is different in the short run and in the long run Aggregate Demand The aggregate demand curve shows the relationship between price level and the quantity of output demanded For this chapter’s intro to the AD/AS model, we use a simple theory of aggregate demand based on the quantity theory of money. The Quantity Equation As A ggregate Demand M*V = P*Y If we assume that velocity V is constant and the money supply M is fixed by the central bank, then the quantity equation yields a negative relationship between the price level P and output Y Downward Sloping Curve Combinations of P and Y that satisfy the quantity equation holding M and V constant. This downward-sloping curve is called the aggregate demand curve Why AD Curve is Downward-Sloping? Because we have assumed the velocity of money is fixed, the money supply determines the dollar value of all transactions in the economy. If the price level rises, each transaction requires more dollars, so the number of transactions and thus the quantity of goods and services purchased must fall. Shifting The AD Curve An increase in the money supply shifts the AD Curve to the right Aggregate Supply in the Long Run Recall: In the long run output is determined by factor of supplies and tech Y is the full-employment or natural level of output, at which the economy’s resources arefully employed “Full Employment” means that unemployment equals its natural rate (not zero) The Long Run Aggregate Supply Curve