ch11 note (1).pdf - Chapter 10 Classical Business Cycle Analysis Market-Clearing Macroeconomics „ Learning Objectives I Goals of Chapter 10 A Use the

ch11 note (1).pdf - Chapter 10 Classical Business Cycle...

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Chapter 10 Classical Business Cycle Analysis: Market-Clearing Macroeconomics Learning Objectives I. Goals of Chapter 10 A) Use the IS-LM model with rapidly adjusting wages and prices to present the classical model B) Examine the relationship between money and the business cycle II. Notes to Fourth Edition Users A) Section 10.1 introduces a new discussion on household production B) The application on “International Evidence on the Slope of the Short-Run Aggregate Supply Curve” was deleted Teaching Notes I. Business Cycles in the Classical Model (Sec. 10.1) A) The real business cycle theory 1. Two key questions about business cycles a. What are the underlying economic causes? b. What should government policymakers do about them? 2. Any business cycle theory has two components a. A description of the types of shocks believed to affect the economy the most b. A model that describes how key macroeconomic variables respond to economic shocks 3. Real business cycle ( RBC ) theory (Kydland and Prescott) a. Real shocks to the economy are the primary cause of business cycles (1) Examples: Shocks to the production function, the size of the labor force, the real quantity of government purchases, the spending and saving decisions of consumers (affecting the IS curve or the FE line) (2) Nominal shocks are shocks to money supply or demand (affecting the LM curve) b. The largest role is played by shocks to the production function, which the text has called supply shocks, and RBC theorists call productivity shocks (1) Examples: Development of new products or production techniques, introduction of new management techniques, changes in the quality of capital or labor, changes in the availability of raw materials or energy, unusually good or bad weather, changes in government regulations affecting production (2) Most economic booms result from beneficial productivity shocks; most recessions are caused by adverse productivity shocks
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202 Abel/Bernanke/Croushore • Macroeconomics, Sixth Edition c. The recessionary impact of an adverse productivity shock (1) Results from Chapter 3: Real wage, employment, output, consumption, and investment decline, while the real interest rate and price level rise (2) So an adverse productivity shock causes a recession (output declines), whereas a beneficial productivity shock causes a boom (output increases); but output always equals full-employment output d. Real business cycle theory and the business cycle facts (1) The RBC theory is consistent with many business cycle facts (a) If the economy is continuously buffeted by productivity shocks, the theory predicts recurrent fluctuations in aggregate output, which we observe (b) The theory correctly predicts procyclical employment and real wages Numerical Problem 1 looks at the relationship between real wages and employment over the business cycle and the issue of whether the labor-supply curve should be flat or steep to be consistent with the data.
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