Extending AS

1
Extending The Analysis Of AS To The Long Run
SRAS1
LRAS
PL
AD2
AD1
The SRPC is almost the mirror image of the SRAS
curve.
10
AD3
3
1
Inflat. Gap
Recess. Gap
Relating AD/AS To The Phillips Curve
Y 5
YI 3
YR 10
"Old Stable Phillips Curve"
SRPC
PC
More inflation or more unemloyment
LRPC
10
Alban William Housego Phillips 1914-1975
3
Annual Rate of Inflation
1
Inflat. Gap
The new Phillips Curve will have a SRPC a LRPC.
Recess. Gap
Menu of Choices
3
10
Unemployment
5
5 is Y(F) with 3 anticipated PL.
2
Extending AS SRAS to the LR LRAS
When PL is anticipated, equilibrium is the
same for both the SRAS curve and the LRAS
curve at potential output.
LRAS
SRAS
AD
LRASwhat is available to us today SRAS where
AD crosses the SRAS shows how well we are
using what is available today
PL1 3
E1
Y
Real GDP
NAIRU Non Accelerating Inflation Rate of
Unemployment
3
.
Extending the Analysis of ASSRAS to the LRLRAS
when PL changes are unanticipated
SR output prices increase but input
prices wages remain fixed in the presence
of unanticipated inflation.
AS1
AS3
LRAS
AD2
AD1
There is an unanticipated increase in AD and PL.
6
E3
E2
Youre crazy if you think were going to accept
3 wage increases while prices are going up
6.
3
E1
LR - both output prices and input (wages)
prices increase.
With more profits, firms work their workers
overtime, and entice others like homemakers
retirees, and hire and train the structurally
unemployed.
5
3
4
Extending the Analysis of ASSRAS to the LRLRAS
when PL changes are not anticipated
LRAS
SR output prices decrease but input
prices wages remain fixed in the
presence of unanticipated disinflation.
AS1
AS2
AD1
AD3
There is an unanticipated decrease in AD and
PL.
3
E1
1
Thanks boss. You are giving me 3 raises
while prices are increasing only 1.
E2
E3
LR - both output prices and input (wages)
prices decrease.
5
9
5
.
Extending the SRAS to the LR LRAS
SR - output prices change but input
prices remain fixed in the presence of
unanticipated inflation or disinflation.
LRAS
AS1
AS3
AS2
AD2
AD1
6
E3
AD3
3
E1
1
E3
LR - both output prices and input (wages)
prices change.
9 5 3
6
.
LRAS
Higher PL results in higher nominal wages
shifts SRAS left.
LRAS
SRAS2
AD1
SRAS1
E3
PL26
E2
Price Level
AD2
E1
PL13
Y employment increased in the SR but not
the LR.
Inflationary Gap
o
Y1
Y2
Real domestic output
7
LRAS
Lower PL reduces nominal wages and shifts SRAS
right.
LRAS
SRAS1
AD1
SRAS3
AD2
Price Level
PL13
E1
E2
Y and employment decreased in the SR but not
the LR.
PL11
E3
The LRAS Shifters are the same things that shift
the PPC out more or better resources land,
labor, capital, or entrepreneurial
ability better technology
Recessionary Gap
o
9
5
Real domestic output
8
GROWTH IN THE AD-AS MODEL
Economic Growth
1. Increase in resources -
LRAS1
LRAS2
c
2. Better resource quality -
a
3. Technological advances -
Capital Goods
U
Price Level
Y1
Y2
d
b
Consumer Goods
Real GDP
9
.
Economic Growth in the Extended ADAS Model
LRAS1
LRAS2
The LRAS drags the SRAS curve along with it.
SRAS2
SRAS1
PL2
Price Level
PL1
AD2
AD1
o
Y1
Y2
Real GDP
10
.
EQUILIBRIUM IN EXTENDED AD-AS MODEL Equilibrium
for the SRAS LRAS are the same if the correct
rate of inflation is anticipated
LRAS
SRAS1
AD1
Price Level
E1
PL1 2
o
Y1
Real domestic output
11
.
DEMAND-PULL INFLATION Self-Correction
LRAS
AD2
SRAS1
AD1
PL25
E2
Price Level
E1
PL12
o
Y1
Y2
Real GDP
12
.
DEMAND-PULL INFLATION Self-Correction
LRAS
SRAS2
AD2
SRAS1
AD1
E3
Price Level
PL25
E2
PL12
E1
o
Y1
Real GDP
Y2
13
COST-PUSH INFLATION
LRAS
SRAS2
AD1
SRAS1
Occurs when SRAS shifts left
Due to a shortage of inputs like crude oil food
No job, yet prices are going up.
E2
PL210
PL12
E1
Price Level
Stagflation
o
Y2 10
Y1
Real GDP
14
COST-PUSH INFLATION
Government response with increased AD
LRAS
SRAS2
AD2
SRAS1
AD1
Even higher price levels
PL3 12
E3
Price Level
E2
PL2 10
PL12
E1
o
Y2
Y1
Real GDP
10
15
COST-PUSH INFLATION
If government allows a recession to occur
LRAS
SRAS2
AD1
SRAS1
E2
PL210
Price Level
E1
PL12
o
Y1
Y2
Real GDP
10
16
COST-PUSH INFLATION
If government allows a recession to occur
LRAS
SRAS2
SRAS1
Nominal wages fall and AS returns to its
original location
E2
PL210
Price Level
E1
PL12
AD1
o
Y2
Y1
Real GDP
10
17
Inflation-Unemployment Relationship

• Normally, there is a short-run trade-off between
  the rate of inflation and the the rate of
  unemployment.
• AS shocks can cause both higher rates of
  inflation and higher rates of unemployment.
• There is no significant PL/Y trade-off over
  long periods of time.

18
Effect of Changes in AD on Real Output and Price
Level
AD1
SRAS
Price Level
PL1
0
Y1
Real GDP
19
Effect of Changes in AD on Real Output and Price
Level
SRAS
AD2
AD1
PL2
Price Level
PL1
o
Y1
Y2
Real GDP
20
Effect OF Changes IN AD On Real Output and Price
Level
AD3
AD1
AD2
SRAS
PL3
PL2
Price Level
PL1
o
Y1
Y3
Real GDP
Y2
21
Effect of Changes in AD on Real Output and Price
Level Good News-Bad News
AD4
AD3
AD1
AD2
SRAS
PL4
PL3
Price Level
PL2
PL1
o
Y4
Y1
Y3
Y2
Real GDP
22
THE PHILLIPS CURVE CONCEPT
PC
7 6 5 4 3 2 1
AS inflation declines...
Annual rate of inflation
Unemploy. increases
1 2 3 4 5 6 7
Unemployment rate (percent)
23
The Phillips Curve Trade-Off
PL
Y/Empl.
A Phillips Curve trade-off between unemployment
and inflation.
Increases in AD causes . . .
Phillips curve
PC
AS
AD3
AD2
C
AD1
9 3 1
C
9 3 1
Price Level
Inflation
B
B
A
A
9 5 2
2 5 9
24
Shifting Phillips Curve
Stagflation Shifts in AS
Cause shifts in the PC
PC5
PL
PC4
AD
AS5
PC3
AS4
PC2
PC1
AS3
AS2
Inflation
AS1
Output Employment
Unemployment
The unemployment-inflation experience of the
1970s 1980s demolished the idea of an
always-stable Phillips Curve.
25
Anticipated or Unanticipated increase/decrease in
AD
Review before looking at the New Phillips
Curve
LRAS
If there is an unanticipated increase in AD,
then PL, Y, and employment increase in SR,
but only PL in the LR. Now this was a
surprise!
AD1
SRAS1
AD2
E2
PL26
Unanticipated
PL12
Price Level
E1
o
Y1
Y2
Real GDP
26
Anticipated or Unanticipated increase/decrease in
AD
Review before looking at the New Phillips
Curve
LRAS
SRAS2
If there is an unanticipated increase in AD,
then PL, Y, and employment increase in SR,
but only PL in the LR. Now this was a
surprise!
SRAS1
AD1
AD2
E3
E2
PL26
Price Level
PL12
E1
o
Y1
Y2
Real GDP
27
Anticipated or Unanticipated increase/decrease in
AD
LRAS
Review before looking at the New Phillips
Curve
AS2
AS1
If there is an unanticipated increase in AD,
then PL, Y, and employment increase in SR,
but only PL in the LR.
AD2
AD1
E3
E2
PL26
Anticipated
Price Level
PL12
E1
If the increase in AD is anticipated, only PL
increases.
o
Y1
Real GDP
28
Anticipated or Unanticipated increase/decrease in
AD
Review before looking at the New Phillips
Curve
LRAS
AS1
AD1
If there is an unanticipated, decrease in AD,
then PL, Y, and employment decrease in SR,
but only PL in the LR.
Price Level
PL16
Unanticipated
E1
E2
PL22
AD2
o
Y1
Y2
Real domestic output
29
Anticipated or Unanticipated increase/decrease in
AD
Review before looking at the New Phillips
Curve
LRAS
AS2
AS1
AD1
If there is an unanticipated, decrease in AD,
then PL, Y, and employment decrease in SR,
but only PL in the LR.
PL16
E1
Price Level
Unanticipated
E2
PL22
E3
AD2
o
Y1
Y2
Real domestic output
30
Anticipated or Unanticipated increase/decrease in
AD
Review before looking at the New Phillips
Curve
LRAS
AS2
AS1
AD1
If there is an unanticipated, decrease in AD,
then PL, Y, and employment decrease in SR,
but only PL in the LR.
Price Level
PL16
E1
Anticipated
PL22
E2
If the decrease in AD is anticipated, only PL
decreases.
AD2
o
Y1
Y2
Real GDP
31
Adaptive expectations view - SRPC LRPC
There is a SRPC output prices are changing and
a LRPC output input prices chg after
unanticipated inflation or disinflation LRPC -
when unemployment the natural rate and there
is no tendency for PL to be incr/decr. PL is
stable contracts reflect it.
LRPC
My salary just isnt keeping up.
Lets say that inflation has averaged 3 for
three years. 3 is anticipated.
15
12 9 6 3
SRPC3
Wow, my raise exceeds inflation.
b3
But my raise was only 6.
But when it comes time to sign a new contract,
his boss says
SRPC2
a3
It cant get any better. My raises exceed
inflation.
b2
SRPC1
c3
a2
Lets say that inflation has averaged 9
for the past few years. 9 is anticipated.
b1
But my salary went up by only 3.
a1
c2
Inflat. Gap
Recess. Gap
C1
0 2 4 6 8 10
32
SRPC LRPC Adaptive Expectations View
When labor contracts expired, workers desired
to restore their real purchasing power that had
been reduced by unanticipated inflation and
they adjusted their expectations about
future inflation at 6 instead of 3.
The Adaptive Expectations view holds that there
are two curves, a SR backward-looking
fooled curve with a trade-off and a LR curve
with no trade-off.
LRPC
Friedmans natural rate or fooling theory.
The economy moved away from the natural
unemployment rate because workers were fooled
in the SR into thinking that inflation was
either lower or higher than it really was. So,
there is a SRPC and a LRPC.
15
12 9 6 3
SRPC3
b3
SRPC2
While the RATEX view says that there is only one
LR forward-looking not-fooled curve with no
trade-offs.
a3
So, we have the Natural Rate Hypothesis with a
trade-off in the SR but no trade-off
in the LR. 1. Adaptive expectations theory or
backward-looking approach. 2. Rational
Expectations theory or forward-looking
approach.
b2
SRPC1
c3
a2
b1
a1
c2
Inflat. Gap
Recess. Gap
C1
0 2 4 6 8 10
33
The Phillips Curve Trade-Off
C to B like AD1 to AD2
C to A like AD1 to AD3
C to D like AD3 to AD2
Y/Empl.
PL
C to E like AD3 to AD1
A Phillips Curve trade-off between unemployment
and inflation.
Increases in AD causes . . .
PC
AS
Phillips curve
AD3
PL3 PL2 PL1
AD2
A
AD1
B
C
D
E
34
Phillips Curve in the 1960s
PC
PC
What is the conclusion of the Phillips curve?
The opportunity cost of more employment is more
inflation The opportunity cost of less
inflation is less employment.
35
Inverted Phillips Curve Swerve late
90s
The new economy was helped by a favorable
supply shock oil dropping from 26 to 11 and a
speedup in productivity.
97
98
2
4
The Crocodile Hunter the Fed Still Listens
To Alban William Housego Phillips was a
violinist, crocodile hunter, and electrician who
became a W.W.II hero. Many say the link between
unemployment and inflation has been weakened by
technology-driven productivity advances and
global competition. the so-called new
economy However, Alan Greenspan still believed
in the SRPC trade-off.
36
Phillips Curve Shifting in the 70s and 80s
37
Phillips Curl?
Unemployment got worse but so did inflation.
38
Wage-Price Controls To Control Inflation1971
1973 both failed
President Nixon came into office as a strong
opponent of wage-price controls to control
inflation. However as inflation edged over 5 in
summer of 1971, he did try it for 90 days.
Like pre-empting Desperate Housewives
In August of 71, Nixon announced to the nation on
a Sunday night (pre- empting Bonanza), the 90
day freeze on wages. Nixon hoped he would not be
perceived as a flip-flopper on this issue. The
next day, 90 of the next days news were devoted
to this issue.
The DOW liked the news and shot up 33 points, as
Nixon was perceived as acting boldly, and
coming to the defense of the consumers against
the price gougers. He also did it again in 73
but it didnt work any better. His head of the
OMB told him that they had convinced the
public of their original position that, wage
price controls dont work to control inflation.
So-do wage price controls work to control
inflation?
Protesters against the Nixon Wage freeze
39
Incomes Policies (1. Jawboning, 2. Wage/price
guidelines,
3. Wage/price controls)
Controlling incomes lessens price pressures.
Controlling prices lessens wage pressures.
Kublai Khan
Wage price controls were tried failed during
these periods. Diocletion-301 Kublai Khan-13th
century Antwerp-1584 Continental Congress-1775
Nixon-1971 S. American Countries-1980s. Inflati
on always won and wage and price controls
lost. 1. This produces shortages of products
workers cant send signals. 2. Price increases
show up off the books. 3. Firms convert illegal
wage increases (create new job classifications)
into legal promotions 4. Workers cant freely
bargain for wages so the public quickly tires of
this. 6. The Market cant equate QD and QS. 7.
Economists reject this approach to reducing
inflation.
40
THE LAFFER CURVE
100
Tax rate (percent)
l
0
Tax revenue (dollars)
41
THE LAFFER CURVE
100
n
m
m
Maximum Tax Revenue
Tax rate ()
l
0
Tax revenue (dollars)
42
Tax
Ben Steins part in this movie as a
boring econ prof was voted one of the 50 most
famous scenes in American film.
100
Tax Rate
0
Ben Stein from Ferris Buelers Day Off
graduated from Columbia University in 1966
with a degree in economics and from Yale Law
School in 1970 as valedictorian. He was a
speech writer for Nixon. He has written 16
books, including his latest humor book, How
To Ruin Your Life.
43
Here Is A Phillips Curve FRQ Asked In
2005
44
FR 2005
3. 4 total pts Assume that the table below
shows the unemployment and inflation data in
Country X as a result of a shift in AD.
Period Unemployment Rate Inflation
Rate Last Year 2 8 This
Year 5 4
(a)2 pts Draw a correctly labeled graph of a
short-run Phillips curve for Country X,
showing the actual unemployment and inflation
rates for both years. Label the Phillips curve
as SRPC.
(b) 2 pts Now assume that the SRAS curve
has shifted to the left. (i) Identify one
factor that could cause the AS curve to shift to
the left.
SRPC2
SRPC
1
8
Answer 3 (b) (i) An increase in input cost
could shift the AS curve left. Other answers
could be increase in bus. regs., increase in
business taxes, decrease in subsidies, or an
increase in expected inflation (increase in
wages)
Inflation
4
Unemployment
2
5
(ii) On the graph, show how this shift would
affect the short-run Phillips curve.
45
FR 2005
(c) 1 pt Assume that the natural rate of
unemployment in Country X is 5. Draw a
correctly labeled graph of the long-run Phillips
curve and label it as LRPC.
LRPC
SRPC
8
Inflation
4
Unemployment
2
5
(d) 1 pt What is the relationship between the
unemployment rate and the inflation rate
in the long run?
Answer 2. (d) There is no relationship between
the unemployment rate and inflation in the long
run. As can be seen in the graph above. If there
is unanticipated inflation or disinflation,
although PL increases or decreases, unemployment
ends up at the natural rate.
46
And Here Is A Phillips Curve FRQ Asked In
2006
47
NAIRU BackgroundNon Accelerating Inflation
Rate of Unemployment

• There exists a level of unemployment where
  inflation is not generated. Having too little
  unemployment 3 generates wage inflation,
  too much unemployment 12 causes wages to fall.
  This special level of unemployment IS NOT a
  constant. It varies based on the conditions and
  restrictions society places upon it.
• Shifters of the NAIRU and therefore the LRPC
• Changes in the labor force characteristics. Age,
  sex, of married both employed couples, of new
  workers entering, structural changes in demand
  for labor skills, educational level.
• Changes of government policies. Minimum wages,
  unemployment compensation, job training programs,
  employment subsidies to workers or the employers.
• Changes in Productivity. Increases in
  productivity w/o wage increases makes workers
  more desirable, and slowing of productivity
  without a corresponding slowing of wage
  increases makes workers less desirable.
• Changes in Labor Market Institutions. Power of
  labor unions to negotiate wages above equilibrium
  level, temporary employment agencies, and the
  internet for job searches.

48
FRQ 2006
3 (c) 4 pts Assume that the government
reduces the level of unemployment
compensation.
(i) Explain how this affects the natural
rate of unemployment. (ii) Using a
correctly labeled graph, show how this affects
the long-run Phillips curve.
PL
LRPC1
LRPC2
4 points given for saying the a.) natural rate
will fall, b.) People have more
incentive to look for work, c.) graph of
LRPC, and d.) leftward shift of the LRPC
Unemployment
Y1
Y2
Answer 3(c) (i) The natural rate of
unemployment would decrease to Y2 because
of more labor in the work force. (ii)
Lower payment for unemployment compensation will
mean that workers have more incentive to work
and go out and search for jobs more quickly. They
remain unemployed for shorter periods of time
and hence the natural rate of unemployment
tends to be lower. The LRPC would shift to the
left to Y2.
49
Phillips
Curve (74) 51. According to the short-run
Phillips curve, there is a trade-off between
a. interest rates and inflation b. the growth
of the MS and interest rates c. unemployment
and economic growth d. inflation and
unemployment e. economic growth and interest
rates (22) 52. According to the long-run
Phillips curve, which of the following is true?
a. Unemployment increases with an increase in
inflation. b. Unemployment decreases with an
increase in inflation. c. Increased automation
leads to lower levels of structural unemployment
in the long run. d. Changes in the composition
of the overall demand for labor tend to be
deflationary in the long run. e. The
natural rate of unemployment is independent of
monetary and fiscal policy changes that
affect AD.
Here Are Two Phillips Curve MC Questions Asked In
2005
LRPC
Inflation
Unemployment
Y
50
Reaganomics
I was on the Laffer curve.
Ave. 23 cut
The core of the supply-side theory was that
lower marginal tax rates would cause people to
supply more labor, working more and harder,
which would increase growth and the positive
effect on growth would be so large that G
tax revenue would actually increase rather than
decrease in response to the tax cut.
51
Reaganomics and Budget Deficits
In honor of President Reagans 1st 4 years the
democrats wanted this new 1 Trillion bill.
52
(No Transcript)
53
What happens to profits, output, and employment
when there is an increase or decrease in PL
in SR and LR?
1. An increase in price level from PL1 to PL2
results in a(an) (increase/decrease) in
profits, output, and employment. 2. A decrease
in price level from PL1 to PL3 results in a(an)
(increase/decrease) in profits, output,
and employment. 3. In the LR, output (Y) and
employment (increase/decrease/stay the same).
54
The Phillips Curve Trade-Off
C to B like AD1 to AD2
C to A like AD1 to AD3
C to D like AD3 to AD2
Y/Empl.
PL
C to E like AD3 to AD1
A Phillips Curve trade-off between unemployment
and inflation.
Increases in AD causes . . .
PC
AS
Phillips curve
AD3
PL3 PL2 PL1
AD2
A
AD1
B
C
D
E
55

• NATURAL RATE HYPOTHESIS
• A. Adaptive Expectations
• B. RATEX
• 1. B1 to B2 represents the (SR/LR) for adaptive
  expectations.
• 2. B1 toC1 represents the (SR/LR) for adaptive
  expectations.
• 3. RATEX LR view would be from B1 to ____.
• 4. Traditional PC movement would be from B1 to
  (C1/B2).
• 5. The whole graph explains the (Old/New)
  Phillips curve.

B2
12 9 5
LRPC
SRPC3
c3
New Phillips Curve
SRPC2
B3
c2
SRPC1
B2
C1
Recess. Gap
Inflat. Gap
b1
2
0 2 4 6 8
56
Economy Starts At Equilibrium
C 1. Inflation unexpectedly falls from 5 to
3, unemployment will increase from 6 to
___. 2. RATEX view if anticipate decline from 5
to 3, unemployment will (increase to
8/stay at 6). 3. SR and LR if PL unexpectedly
falls from 5 to 3, unemployment moves from
6 to ___ to ___.
What a surprise!
I anticipated this.
8
6
8
LRPC
Wow, surprised again!!
SRPC3
5 3
SRPC2
C
d
SRPC1
b
a
Inflat. Gap
Recess. Gap
0 2 4 6 8
57
A
Hard to anticipate here.
Start from equilibrium A
1. Unanticipated decrease
of AD1 to AD2 with flexible prices and wages.
Equilibrium would go from A to ____ to ____. 2.
Anticipated decrease of AD would result in A to
____. 3. Decrease from AD1 to AD2 if prices are
flexible but wages are not. Equilibrium would
move from A to ____. 4. Decrease from AD1 to
AD2 if prices are not flexible. A to __.
C
D
C
D
E
58
Yes, I can anticipate things.
A

• Anticipated increase from AD1 to AD2Classical.
  A to __.
• Anticipated increase from AD1 to AD2RATEX. A
  to ___.
• Unanticipated increase in AD and
• self correction. A to ___ to ___.
• 4. Unanticipated increase in ADRATEX. A to
  ___ to ___.

Start from equilibrium A
C
C
Fooled again.
B
C
B
C
59
NS 1-6
1. The traditional Phillips Curve suggests a
tradeoff or conflict between unemployment
(GDP/inflation). 2. A simultaneous increase in
unemployment and inflation is known as
(deflation/stagflation). 3. In a given year the
nominal wage rate of a particular group of
employees rises by 10 their productivity
increases by 4, we conclude that the unit
labor costs will (rise/fall) by (3/4/5/6).
Old Phillips Curve
My 10 wages exceed my 4 productivity.
I can adapt my expectations later.
I always anticipate.
4. The two main variants of the natural rate
hypothesis are the backward looking
adaptive expectations theory and the
forward looking (Keynesian/RATEX) theory. 5. In
the natural rate theory when the actual rate of
inflation exceeds the expected
unanticipated rate firms will experience
(declining/rising) profits and (increase/decrease)
their employment. 6. In the natural rate theory,
when the rate of inflation is less than the
expected rate the firms will experience
(declining/rising) profits and
(increase/decrease) their employment.
60
NS 7
7. Assume the economy is at b1. A. According to
RATEX, the long-run relationship between
unemployment inflation is represented by
(line b1 to c1/line through b1, b2, b3, b4).
B. This diagram explains the (adaptive
expectations/ Keynesian) view of the
Phillips curve. C. Adaptive expectations
theorists argue that C1 represents future
nominal wage (increases/decreases).
D. A movement consistent with the traditional
(old) Phillips curve tradeoff is (c1 to
b2/b1 to b2/b1 to c1). E. If factor cost
factor of production have not adjusted to
inflation, the economy will move from (b1
to b2/b1 to c1). F. The full employment rate
for this economy is (4/6/8). G. If price
level is anticipated, when government uses
expansionary policies to lower
unemployment below 6, the economy will move
from (b1 to c1/b1, b2, b3, b4).
61
8. RATEX theory implies workers can correctly
forecast inflation, therefore the Phillips
curve is (horizontal/vertical).
(9)PL2
NS 8-11
(6)PL1
(3)PL3
YR Y YI
9. In terms of AS, the short-run is a period in
which nominal wages and other input prices
are (variable/constant) in the presence of
unanticipated inflation/disinflation. 10. The
LRAS is (up-sloping/vertical) because in time
resource prices catch up with product
prices. 11. The SRAS curve is (up-sloping/vertical
) because higher prices cause firms to
expand output when resources prices remain
constant.
62
NS 12-15
The natural rate of unemployment is 6.
The economy is operating at point C where
the expected and actual rates of inflation are
5. 12. If the actual rate of inflation
unexpectantly falls from 5 to 3, then the
unemployment rate will (temporarily fall from
6 to 8/ permanently increase from 6 to 8).
Now, that was a surprise.
5
6
13. According to RATEX theory, if firms and
workers fully anticipate the decline in the
actual rate of inflation from 5 to 3, the
economy will (move from c to a
eventually to b/remain at c/move directly
from c to b). 14. The diagram of the natural
rate hypothesis suggests that (disinflation
can occur/any rate of inflation is consistent
with the natural rate of unemployment/
unemployment rates which exceed the natural rate
are only temporary/all the above are true.
15. In the long run, the decline in the actual
rate of inflation from 5 to 3 will
(reduce/have no effect) on the unemployment rate.
63
NS 16-20
Movement, just movement.
SRAS
PL1
PL1
PL2
PL3
16. An increase in the PL will cause a
(shift/movement) (up/down) a SRAS curve. a
decrease in the PL will cause a (shift/movement)
(up/down) a SRAS curve.
17. If demand management AD changes policies
are initiated to restrain cost-push inflation,
we can expect unemployment to
(increase/decrease).
10
3
But I will get another job.
6
14 10
18. The historical record in America since W.W.
II indicates that incomes policies
restraining wages to control prices during
inflation have been largely
(effective/ineffective). 19. The Laffer Curve is
a central concept in (monetarism/supply-side
economics). 20. Reaganomics
advocated (cuts/increases) in taxes,
(increases/decreases) in government
regulation.
Laffer Curve
64
The End