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Chapter 25 - Chapter 25 The Difference Between Short-Run...

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Chapter 25: The Difference Between Short-Run and Long-Run Macroeconomics Distinctions between short-run GDP fluctuations and long-run GDP growth 25.1 Two Examples Macroeconomics variables behave differently over the short run than over the long run. Inflation and Interest Rates in Canada: a monetary policy designed to reduce inflation and nominal interest rates in the long run requires an increase in interest rates in the short run. o Inflation erodes the value of money: lenders need to be compensated for the inflation- induced fall in the real value of their money between the time they lend it and the time that they are repaid. This requires charging a nominal interest rate high enough to cover the effects of inflation o Higher inflation pushes up interest rates; lower inflation pushes them down o As wage growth declines the pressure on prices to rise also declines o As inflation falls, and the rate of erosion of money’s value falls with it, nominal interest rates will also fall. Saving and Growth in Japan : An increase in households’ or firms’ saving rates will reduce the level of output in the short run, but it will increase output in the long run. o In the short run, with factor prices and technology more or less constant, an increase in households’ desire to save, perhaps caused by some uncertainty about future economic events, implies a reduction in expenditure, which leads to a reduction in output (through the usual multiplier process) AD curve shifts to the left and real GDP falls
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