Lecture16+-+The+Phillips+Curve+and+Aggregate+Supply -...

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Economics 100B: MacroeconomicsThe Phillips Curve and Aggregate SupplyReading:Mishkin - Chapter 11.C. Binder “Whose Expectations Augment the Phillips Curve?”,WorkingPaper, University of California, Berkeley (2013).E.S. Knotek, II, “How Useful is Okun’s Law?”Economic Review, FederalReserve Bank of Kansas City, (Fourth Quarter, 2007). Introduction,Section I, and Section V,Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics1/ 36
The Phillips Curve and Aggregate SupplyAgenda:1The Phillips Curve:U=f1().2Okun’s Law:U=f2(Y).3Aggregate Supply:Y=f3()Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics2/ 36
The Phillips CurveCasual empiricism of the relationship between inflation and unemployment.-5051015607080900010RATE (%)TIME (year)Source: FRED / BLSCPI InflationUnemploymentLecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics3/ 36
The Phillips CurveOriginal formThePhillips curveis theinverse relationship between inflation andunemployment.When unemployment is unusually low, the demand for laborwill exceed the supply of labor and wages will rise morequickly.Because wages are a major input into total costs, more rapidlyrising wages leads to higher inflation.
Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics4/ 36
The Phillips CurveEmpirical motivation based on data from 1960-1970-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)60-70Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics5/ 36
The Phillips CurveDirect extension to later time is problematic.-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)60-70Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics6/ 36
The Phillips CurveFed inflation-credibility issue, 1973 oil-price shock & Volker inflation fight.-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)60-7076-84Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics7/ 36
The Phillips CurveFed inflation-fighting credibility restored.-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)60-7076-8485-95Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics8/ 36
The Phillips CurveNatural rate of unemployment declines further?-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)60-7076-8485-9596-07Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics9/ 36
The Phillips CurveThe financial crisis of 2008 and beyond.-202468101214345678910INFLATION (%)UNEMPLOYMENT (%)08-1360-7076-8485-9596-07Lecture 16 – Phillips Curve & Aggregate Supply: R. J. HawkinsEcon 100B: Macroeconomics10/ 36
The Phillips CurveEarly modificationThe Phillips curve also impliesan inverse relationshipbetweennominal wagesandunemployment.A major flaw in the original Phillips curve analysis was that itfailed to distinguish between nominal wages and real wages.1Labor market incentives for working and hiring are determinedby real, not nominal, wages.2If workers and businesses expect inflation to increase, they will

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