National Income & Business Cycles

Transcription

1 National Income & Business Cycles Two case studies: Objectives 1. Oil shocks of the 1970s Ohio Wesleyan Univesity Goan Skosples 2. The Geat Depession 10. Oil Shocks of the 1970s and the Geat Depession 0 1 Supply shocks A supply shock altes poduction costs, affects the pices that fims chage. (also called shocks) Examples of advese supply shocks: Bad weathe educes cop yields, pushing. Wokes unionize, negotiate. New envionmental egulations equie fims to educe emissions. Fims to help cove the costs of compliance. Favoable supply shocks costs and pices. CASE STUD: Ealy 1970s: OEC coodinates a eduction in the supply of oil. Oil pices ose 11% in in in 1975 Such shap oil pice inceases ae supply shocks because they significantly impact poduction costs and pices. 2 3

2 The oil pice shock shifts SRAS, causing output and employment to. In absence of futhe pice shocks, pices will ove time and economy moves. CASE STUD: A SRAS 1 AD 4 edicted effects of the oil shock: inflation output unemployment _ CASE STUD: and then a gadual ecovey Change in oil pices (left scale) Inflation ate-ci (ight scale) Unemployment ate (ight scale) 5 12% Late 1970s: As economy was ecoveing, oil pices shot up again, causing anothe huge supply shock!!! CASE STUD: % Change in oil pices (left scale) Inflation ate-ci (ight scale) Unemployment ate (ight scale) s: A favoable supply shock-- a significant fall in oil pices. As the model pedicts, inflation and unemployment : CASE STUD: The 1980s oil shocks % Change in oil pices (left scale) Inflation ate-ci (ight scale) Unemployment ate (ight scale) 7

3 CASE STUD: What is the pediction about inteest ates? 8 Execise An oil catel effectively inceases the pice of oil by 100 pecent, leading to an advese supply shock in both County A and County B. Both counties wee in long-un equilibium at the same level of output and pices at the time of the shock. The cental bank of County A takes no stabilizingpolicy actions. Afte the shot-un impacts of the advese supply shock become appaent, the cental bank of County B inceases the money supply to etun the economy to full employment. a. Descibe the shot-un impact of the advese supply shock on pices and output in each county. b. Compae the long-un impact of the advese supply shock on pices and output in each county. 9 0 A 0 0 IS 1 Execise LM 0 (M 0 / 0 ) B IS 1 LM 0 (M 0 / 0 ) SRAS o 0 SRAS o 0 10 ea The Geat Depession U.S. Unemployment, Output Gowth, ices, and Money, 1929 to 1942 Unemployment Rate (%) Output Gowth Rate (%) ice Level Nominal Money Stock

4 Shocks to the IS cuve an exogenous fall in the demand fo goods & sevices a leftwad shift of the IS cuve. Stock maket cash exogenous C Oct-Dec 1929: S& 500 fell 17% Oct 1929-Dec 1933: S& 500 fell 71% Dop in investment coection afte ovebuilding in the 1920s widespead bank failues made it hade to obtain financing fo investment Contactionay fiscal policy oliticians aised tax ates and cut spending to A shock to the LM cuve a huge fall in the money supply. evidence: M1 fell 25% duing The elation between the money stock, M1, and the monetay base (physical money) is given by: - M1 = monetay base x money multiplie Money, Nominal and Real, 1929 to 1933 ea Nominal Money Stock, M1 Monetay Base Money Multiplie Real Money Stock, M1/ combat inceasing deficits A shock to the LM cuve but, also fell 25% duing the effect on the LM cuve should be neutal What was the poblem then? ecall: = i - e The Nominal Inteest Rate, Inflation, and the Real Inteest Rate, 1929 to 1933 ea One-ea Nominal Inteest Rate (%), i Inflation Rate (%), One-ea Real Inteest Rate (%), (a) How e shifts the LM cuve The maket fo eal money balances L (i- 1 e, 1 ) 1 LM 1 2 L (i- e 2, 1 ) M/ M 1 / 1 e _ L _ (fo the same i) (b) The LM cuve 1 LM LM 2 15

5 = i - e 0 The effects of falling pices 0 IS LM 0 (M 0 / 0 ) SRAS 0 IS AD shifts 1 0 LM should shift but, M LM const AD shifts At the same time e e LM shifts AD shifts Result:,, 16 The Recovey Monetay policy played an impotant ole , the nominal money stock inceased by 1 and the eal money stock by 10. Othe factos that played an impotant ole wee: The New Deal a set of pogams implemented by the Roosevelt administation. The ceation of the Fedeal Deposit Insuance Copoation (FDIC). Othe pogams administeed by the National Recovey Administation (NRA). 17 Why anothe Depession is unlikely olicymakes (o thei advisos) now know much moe about macoeconomics: The Fed knows bette than to let fall so much, especially duing a contaction. Fiscal policymakes know bette than to aise o cut duing a contaction. Fedeal deposit insuance makes widespead bank failues vey unlikely. Automatic make fiscal policy expansionay duing an economic downtun. 18