macro 3/19/25

Economic Fluctuations

• Economic Fluctuations Overview:
• Irregular and unpredictable.
• Recession: Period of declining real incomes and rising unemployment.
• Depression: A severe recession.
• Most macroeconomic quantities, such as output and employment, fluctuate together.

Short-Run Economic Fluctuations

• Model of Aggregate Demand and Aggregate Supply: Most economists use this model to explain economic fluctuations around long-run trends.
• Aggregate-Demand Curve: Represents the total quantity of goods and services demanded across all levels of the economy at various price levels.
• Aggregate-Supply Curve: Illustrates the total quantity of goods and services that firms will produce and sell at different price levels.

Aggregate-Demand Curve

Slope and Effects

• Downward Slope Reasons:

1. Wealth Effect: Lower price level increases real wealth and consumer spending.
2. Interest-Rate Effect: Lower price levels decrease interest rates, stimulating investment spending.
3. Exchange-Rate Effect: Lower prices depreciate currency, boosting net exports.

Shifts in Aggregate Demand

1. Changes in Consumption: Influenced by factors like tax cuts (shift right) or tax hikes (shift left).
2. Changes in Investment: Optimism about the economy can shift right; pessimism can shift left.
3. Government Purchases: Increased spending shifts right; decreased spending shifts left.
4. Net Exports: Economic booms abroad can shift right; recessions abroad can shift left.

Aggregate-Supply Curve

Long vs. Short Run

• Long-run Aggregate Supply: Vertical because production depends wholly on available labor, capital, resources, and technology, not on price levels.
• Short-run Aggregate Supply: Slopes upwards due to price level effects on output and production costs.

Shifts in Aggregate Supply

1. Changes in Labor: Affects the supply curve based on available workforce.
2. Changes in Capital: Increased capital shifts curve to the right; decreased shifts left.
3. Natural Resources: Changes in availability affect production capabilities.
4. Technological Knowledge: Technological advances shift curve to the right; regression shifts left.

Short-Run Dynamics

• Sticky-Wage Theory: Low price levels can inadvertently increase real wages, reducing hiring.
• Sticky-Price Theory: Firms may keep prices high longer than desired in response to low demand.
• Misperceptions Theory: Suppliers may misinterpret relative price changes, affecting output decisions.

Economic Indicators and Theories

• Historical Context: The model's origins stem from the Great Depression, where economists sought better understanding and policy responses to economic turmoil.

• Keynesian Concepts: John Maynard Keynes highlighted inadequate aggregate demand as a cause of recessions. Suggested that government intervention could stimulate demand and economic recovery.

• Real-time Economic Indicators:

• Sahm Rule Recession Indicator: Monitors economic conditions using seasonal adjustments.

• Business Expectations and Uncertainty: Monthly indicators track employment growth expectations and uncertainties, providing insights into the economic landscape and potential future movements in aggregate demand and supply.