20100915+notes - U.C. Berkeley Econ 1 Lecture for September...

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U.C. Berkeley Econ 1 Lecture for September 15, 2010 Infation Economics The Quantity Theory of Money and the Phillips Curve W HAT Y OU W ILL L EARN T HIS L ECTURE 1. The difference between depression and inFation economics. 2. The application of the quantity theory of money to situations in which there is an excess supply of money. 3. The Phillips Curve 4. Determinants of the “natural” rate of unemployment and of expected inFation. 5. The macroeconomic history of inFation and unemployment in the United States since the Korean War 6. Why inFation is an economic problem worth worrying about. R ECAPITULATION This time there is no recapitulation. We are starting afresh, with a new topic. We have stopped considering not situations in which there is de±cient demand for—excess supply of—currently produced goods and services and thus high unemployment. We are now considering situations in which we are at full or nearly full employment—and in which the problems of the economy are very different. We are considering inFation economics. I NFLATION E CONOMICS Excess Demand for Goods and Services Let us move into the monetarist framework—inFation economics was, after all, what it was designed for. Before we considered situations of “depression economics”: in which the money supply was too low for people to hold the liquid cash balances they wanted to hold if they were planning to spend at their normal, full-employment rate and thus buy all the products the economy’s productive capacity could make. The consequence of too little money chasing goods was downward pressure on spending. Since businesses would rather ±re a few workers than annoy all their workers by cutting wages, and since businesses cannot cut prices and still make pro±ts if they don’t cut wages, then businesses responded to a slower pace of economy-wide spending and growing inventories by cutting back on production and employment—and incomes would fall, and the multiplier process would roll forward.
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The Quantity Theory of Money We have an equation to tell us how much the pace of production will fall when there is too little liquid cash money in the economy. It is the “quantity theory of money” equation: Y = (M/P) • V And if we can assume that the velocity of money V is not changing very much or very fast, it is a useful equation. Now suppose we have a situation of too much money chasing goods. Suppose households and businesses are not short of cash and hence cutting back on spending in order to build up their cash balances, but speeding up their spending as they try to get rid of their cash balances. In total they cannot: if I pay you in cash, then I don’t have the cash but you do—and you are presumably about as willing to spend it as I was. So the same equation holds. The difference is that while businesses in total Fnd it easy to collectively cut back on production and employment—simply Fre people—they Fnd it very hard to boost production and employment—you cannot push
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This note was uploaded on 10/04/2011 for the course ECON 1 taught by Professor Martholney during the Fall '08 term at University of California, Berkeley.

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20100915+notes - U.C. Berkeley Econ 1 Lecture for September...

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