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Unformatted text preview: 8-1: IntroductionInflation- A sustained upward movement (increase) in the aggregate price level that is shared by most products.- It is a continuousincrease in the price level, not a single jump.- Sustained inflation requires a continuous increasein aggregate demand.The Volatile History of the Inflation Rate- The Price Level(P)is measured by the GDP deflator.- The Rate of Inflation(p) is measured by the percentage(%)rate of changeof the GDP deflatorThe Inflation rate in the United States, since 1960, has ranged from - Low Valuesof around 1% per year in the early 1960's and again briefly in 1998.- High Valuesof 10% or more per year in 1975 and again in 1982.How is Inflation Related to the Output Ratio?There is no unique relationship between inflation and the output ratio.Output Ratio- The ratio of Actual Real GDP to Natural Real GDP. Stated as Y / YN- In the absence of supply shocks, the inflation rate remains constantwhen the output ratio is at 100%.- The inflation rate accelerateswhen the output ratio exceeds 100% (Actual RGDP exceeds Natural RGDP). - The inflation rate decelerateswhen the output ratio falls below 100% (Actual RGDP is less than Natural RGDP).Inflation RateOutput RatioAccelerates> 100%No Change= 100%Decelerates< 100%Demand Shocks and Supply ShocksDemand Shock- A sustained acceleration/deceleration in Aggregate Demand- Measured most directly as a sustained acceleration/deceleration in the growth rate of Nominal GDP- A positive (+) demand shock increases inflation and temporarily raises the output ratio.Demand shocks (shifts in aggregate demand) are due to such factors as changes in - the Real Money Supply- Business and Consumer optimism- Real Wealth- Government Spending- Tax Rates- Foreign events that determine Net ExportsSupply Shock- Caused by a sharp change in the price of an important commodity (e.g., oil) that causes the inflation rate to rise or fall in the absence of demand shocks.- An adverse supply shockcan boost inflation while causing the output ratio to decline.8-2: Real GDP, the Inflation Rate, and the Short-Run Phillips CurveDemand PullInflation- When a continuous increase in demand pulls the Price Level up continuously.- Describing the role of rising aggregate demand as the factor "pulling up" on the price level.- Can be caused by large government budget deficits and excessive rates of growth on the Money Supply (MS). Demand Inflation- A sustained increase in prices that is preceded by a permanent acceleration of nominal GDP growth.The Short-Run Phillips (SP) CurveNamed after A. W. H. Phillips, who first discovered the statistical relationship between Real GDP and the Inflation RateShort Run Phillips (SP) Curve- The schedule relating Real GDP to the Inflation Rate achievable given a fixed expected rate of inflation....
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