Macro16 - Chapter 16 the Trade-off Between Inflation and...

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Chapter 16: the Trade-off Between Inflation and Unemployment High growth policies tend to raise inflation, while slow growth policies that reduce inflation tend to raise unemployment Demand-Side InflationVersus Supply-Side Inflation: a Review One major cause of inflation is excessive growth of AD, but it does not always originate from the demand side. Stagflation Demand-side inflation : a rise in P caused by rapid growth of AD (rapid growth of GDP) Supply - inflation : rise in P caused by slow growth of AS (stagnant or falling GDP) Origins of the Phillips Curve If business fluctuations from demand side then :ue should be low when inflation is high and inflation should be low when ue is high. If fluctuations in econ activity are primarily caused by variations n the rate at which the AD curve shifts outward from year to year, then the data should show an inverse relationship between unemployment and inflation. Phillips curve : a graph depicting the rate of ue on the hirizontal axis and either the rate of inflation or the rate of change of money wages on the vertical axis. Phiillips curves are normally downward sloping, indicating that higher inflation rates are associated with lower ue rates. o It was thought to work a the quantitative trade-off between ue and inflation.. until 70s Supply-side Inflation and the Collapse of the Phillips Curve Bc much of inflation in 70s and 80s emanated from supply side via supply shocks, which pushed AS inward. In a growing population with more jobs needed each year, a stagnant economy that does not generate enough new jobs will suffer a rise in unemployment as well as a rise in inflation. If fluctuations in economic activity emanate from the supply side, higher rate of inflation will be associated with higher rates of ue, and lower rates of inflation will be associated w/ lower rates of ue. o Explaining the Fabulous 1990s Experience favorable supply shocks and AS shifted outward at a rapid rate. Meaning econ is growing faster while inflation is lower. Which reduces ue.
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