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Recessions and Depressions
Professor Todd Knoop
95
Economics
Undergraduate 3
03/09/2011

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Cards

Term
3 Things to why business cycles are important to study
Definition
1. B-cycles are experiemnts. 2.) B-cycles are roadmap to economic thought. 3.) B-cycles are costly.
Term
NBER Definition of a recession
Definition
2 or more consecutive quarters of declining GDP
Term
3 Problems with NBER's definition
Definition
1. data lags. 2. using quarters: GDP could be negative for multiple months, but have a really strong last month. 3.) Being below trend. NBER ignores trend.
Term
6 Basic b-cycle facts:
Definition
1. Business cycles are not business cycles because they are irregularly spaced and sized and stds are large. 2>0 B-cycles are not symmetrical. 3.) Components of GDP exhibit much different behavior than GDP itself. 4.) B-cycles involve B changes in labor market. 5.) B-cycles have not changed dramatically over time. 6.) The great depression and WW2 dwarf all other cycles.
Term
Procyclical
Definition
Positive correlation between deviations from trend in a variable with deviations from trend of GDP
Term
Leading Indicator
Definition
Peaks before GDP peaks, troughs before GDP troughs.
Term
Lagging indicator
Definition
Peaks after GDP peaks, Troughs...
Term
Coincident Indicator
Definition
Peaks at the same time as GDP
Term
Capacity utilization
Definition
a measurements of capital into production
Term
Leading indicators
Definition
1.) Investment, money supply, stock prices, consumer confidence. 2.) Counter: Unemployment (leads at peaks), capacity utilization
Term
Example of Lagging indicators
Definition
Procyc: Durables, inflation, real wages (caused by change in labor demand, and sticky wages), interest rates. Counter: Net Exports, unemployment (at trough), capacity utilization (at trough).
Term
4 Big Things from Pec Article
Definition
1.) Employers prefer to hold their profits rather than employ more workers.
2.) People have the mind mentality that they are set for life
3.) Middle aged men were hurt the most from the recession
4.) Hysterisis: temporary shock can have permanent effects.
Term
Sunspot Theory
Definition
The belief that sunspot activity coincides with recessions.
Term
Cobweb Theory
Definition
The amount farmers plant in the spring is based on what the price is based on what the price was last fall. This means that prices and quantities eventually cycle toward equilibrium.
Term
Malthus
Definition
As the population rises, capital to labor ratio falls, which leads to unemployment, which leads to death, which will eventually lead to an increase in capital to labor ratio, which makes population rise.
Term
Gold Standard
Definition
Country with Surplus: Gold inflows, increase in wealth, higher demand for imports, eventually, trade deficit, gold outflows, foreign demand for exports
Term
Profit Margin THeories
Definition
Mitchell(1927): Profit margins are strongly procyclical in imperfectly competitive markets because costs fall during expansions b/c: 1.) Firms reduce inventories and 2.) Input cartels tend to fall apart
Term
Early Investment Theory
Definition
#1
#2 Focuses on over investment
#3 Accelerator model: higher investment, if you invest more it is going to compound.
Term
Long Wave Theory
Definition
Long term trend itself was cyclical. These waves are created by big ideas in technology. Growth will eventually slow.
Term
The 3 assumptions classical model
Definition
1.) perfect competition. 2.) Representative agents: everyone is the same
3.) Real variables matter, not nominal... no money illusion and perfect information
Term
What determines output in C.M.?
Definition
1.)Change in Tech
2.) Change in Capital:
3.) Change in Labor supply: ex incre in immigarion
Term
What does demand determine in the C.M.?
Definition
It isn't impacting output, just the price level.
Term
Quantity Theory
Definition
MV=PY
Term
Say's Law
Definition
Supply creates its own demand. THis shows us that the classical model is about supply.
Term
Money Neutrality
Definition
Nominal variables only change other nom variables and not real.
Term
General Theory: 4 facts
Definition
1.) First true macro model
2.) General equilibrium
3.) Distinction between individual and aggregate behavior
4.) Keynes thought empirical was biased and useless
Term
2 Postulates of Classical Labor Markets
Definition
1.) W/P=MPL-on Ld curve
2.)MVwage=-MVlabor-on Ls curve
***In this model, there is only voluntary unemployment
Term
3 huge ass problems with Keynes General Theory
Definition
1.) Employment fluctuates a lot more than Ls and Ld- Keynes doesn't see that this can be very volatile.
2.) Keynes only believes in Voluntary Unemployment.
3.) Invol Unemp.: people willing to work for the current wage, but can't find a job. Keynes assumes wages can't adjust quickly. When Ld
Term
3 Reasons to why nominal wages are sticky
Definition
1.) "Money illusion" workers worry about nominal wages relative to other people's wages
2.) Increase in P--> decre w/p--> people leave market. It is costly to leave and enter the market.
Term
If wages are sticky, what does that mean about labor?
Definition
incre w/p-->decre Ld (invol unemp.)--> decre in Y
Term
Multiple Equilibrium in Keyens means 2 things
Definition
Depending on position of AD:
1.) Rejects Say's-AD determines Y: supply creates its own demand
2.) Rejects money neutrality
Term
2 things why Id is so volatile
Definition
1.) Any change in Cd, Gd,NXd will influence Id because it will impact inventories. ***unplanned investment-make good, but can't sell them.
Term
Fundamental Uncertainty
Definition
We don't know what we don't know. Information is limited.
Term
Statistical Uncertainty
Definition
Know the distribution of a random variable
Term
Herding behavior
Definition
Leads to extreme over reations
Term
Speculative behavior
Definition
Beauty contest- you pick a stock based on other people's expectations.
Term
As long as expectations are low... is S<,=,or> than I
Definition
S>I
Term
What happens to I and S as countries get bigger?
Definition
I becomes a larger fraction of output and consumption as a fraction decreases. This relates to the underconsumption model.
Term
Paradox of thrift
Definition
Expectations fall so people save more.
Term
Do we get Paradox of thrift in the classical model?
Definition
No, b/c S=I, but this is not the case in the Keynesian model b/c I is a function of expectations.
Term
When expectations decrease, what happens to Id?
Definition
Id decreases... no doubt
Term
Explain the multiplier effect with Id
Definition
decre Id---> decre Y--> Id decre more and consump decre more-->decre Y
Term
3 things: How do recessions end
Definition
1.) Expectations recover
2.) Wages and prices adjust
3.) Gvt policy
Term
Draw out a decrease in expectations on the AD/AS curve
Definition
Term
IS/LM Model (5 differences from Keynes)
Definition
1.) Prices are fixed, not just sticky
2.) Focused on fluctuations in Consumpt model, not just I
3.) Down Played the role of the financial systems
4.) Model of equilibrium
5.)Stat. Uncertainty
Term
Walraw's Law
Definition
If there is a positive demand, there must be a negative demand, so that demand equals zero. Therefore, if we know that two mkts=0, the third must equal zero, so we can clear the bond market out of analysis of the IS/LM model.
Term
Why is there a negative relationship between i and Y in the IS curve. Draw this out and explain.
Definition
Term
3 things that shift IS:
Definition
1.) Increase in expectations--> Increase IS by incre in I and or decre in S
2.) Change in taxes-incre in T decre IS by change is S
3.) Change in Gov spending. Incre G leads to a incre in savings
Term
Liquidity preference theory
Definition
people prefer to hold liquid assets
Term
draw out the Money market graph.
Definition
Term
From the money market graph, draw the LM curve. Which way is it sloping and why?
Definition
Term
How does IS/LM relate to AD? Show an Increase in P
Definition
Ms curve shift to the left. LM shifts to the left, increasing i. an increase in I leads to a decrease in Y
Term
Draw out the phillips curve with unemployment
Definition
Term
What where the shocks that caused the great depression?
Definition
1.) Main shock:
-decrease in expectations: decrease in I and C
2.) Decre in Ms that decre LM
-decre in stock market
Term
What was the solution to the great depression?
Definition
Increase in G, decre in T which both increase IS and incre AD. Also an Increase in Ms that incre LM which incre AD.
Term
What does a decrease in P do to Y and U
Definition
decrease Y and increases U (phillips curve)
Term
What 6 things does it mean to be a Keyensian?
Definition
1. AD id volatile
2. changes in AD impact Y and U more than P in S.R.
3. MKT failure in goods and labor mkt... sticky Pand W
4. Very slow adjustment process back to potential output.
5. Stabilization policu can reduce the volatility of Y and U
6. Worried more about U than inflation!!!!!
Term
What do Keyensians and Keynes believe about financial mkts
Definition
Keyens thought that the market created b-cycles, whereas Keynesians beleived that b-cycles were symptoms of b-cycles.
Term
What does keyenes think about what investors do?
Definition
Beauty contest and herding
Term
What did Keynes think about Central bankers?
Definition
1. they are idiots and that they are working on a liquidity trap.
Term
What do Keyensians think about central bankers?
Definition
MP is important...Phillips curve, bitch!
Term
What principles does the Monetarist follow?
Definition
Classical principles: money neutrality holds in the long run, prices and wage are perfectly flexible and changes in AD are driven by changes in Ms.
Term
State the QTY Theory in Percentage terms. what variables are constant
Definition
%chang M+%chV=%chP+%chY... we assume V is constant
Term
what does a constant V mean for the QTY theory
Definition
Money demand is stable.
Term
Natural Rate Hypothesis
Definition
Money neutrality may not hold in the SR, but it will in the LR.
Term
Draw a SRAS/LRAS/AD curve with a increase in MS. What does the incre in Ms go.
Definition
First, the AD curve shifts right, then people increase their expectations about price, so then the SRAS shifts left to go back into equilibrium iwth the LRAS.
Term
2 Things that MP can't do
Definition
1. Peg nominal interest rate: i=r+expected inflation
2.) Peg employment
Term
In the LR is employment a real or nominal variable. can the central bank control this?
Definition
Real. No.
Term
What 4 things can change the natural rate of unemployment?
Definition
1.) technology
2.) government policy
3.) demographics
4.) Hysterisis.
Term
Draw out the LRPC. What does expected price level have to do with this? How does this shift the PC in the SR?
Definition
Draw it.....
Term
What can MP do?
Definition
1.) Price/inflation stability
2.) MP can prevent change in Ms from being a source of business cycles
3.) Offset major shocks
Term
COnduct of MP.
Definition
1. Fed should be guided only by things that it can control, not by things that it can't. ***Targeting prices is difficult b/c the Fed can't control prices.
2.) Fed should avoid sharp swings in policy. ***Target should be stated and known.
Term
Is money growth procyclical and leading indicator?
Definition
Yes. Money is much more volatile than Y
Term
5 COntributions of Monetarists
Definition
1.) Focused on MP
2.) Reinforced classical principles: money neutrality and NR hypothesis
3. Focus on ST/LT behavior of interest rates: i=r+expect inflation.
4.) Focus on expectations/ information
5.) Rules vs discretion in policy making
i.) Lags in policy
ii.) Ignorance
Term
4 Principles of the Rational Expectations Model
Definition
1.) People form expectations on all cost effective and avaliable information
2.) Marginal Analysis applied to expectations
3.) Forward looking
4.) People will not make systematic or predictable errors. ---Stat uncertainty.
Term
Three principles of Lucas Critique
Definition
1.) Lots of workers and producers-perfect competition
2.) Produce homogenous good/output
Term
What is the problem with Lucas
Definition
Can only observe the price of the good they sell, can't observe price level. Imperfect info.
Term
Provide an Example of the Problem with Lucas
Definition
When I see the price of my good rise, I will think one of two things:
1.) Incre demand for own good or
2.) incre in aggre price level
Term
What is the Lucas Supply equation?
Definition
Yt-Ynr=alpha(Pt-Expected P)+Ut
where Ut=supply shock
Term
According to the Lucas equation, what does a high alpha mean?
Definition
The country has a low inflation history
Term
What two things does the alpha in the Lucas equation depend on?
Definition
1.) Variance of demand of own good high, then alpha is high. Producers want to change output.
2.) Variance of demand of own good low
Term
What is the key to the lucas equation?
Definition
People catch on immediately and change expected prices. This allows for a simultaneous shift in the AS/AD curves and prevents a recession.
Term
Using the Lucas equation as a guide, illustrrate what happens when there is a decrease in AD.
Definition
Term
Two important implications of RE model
Definition
1.) Policy irrelivance
2.) Lucas Critque
Term
What is the Lucas Critique
Definition
It is impossible to predict the outcome of any policy unless you know how expectations will change. This is why economic forecasting has fallen out of favor.
Term
Do RE hold? What is an example of empirical evidence?
Definition
Brazil had two years of high inflation and rthen had a year of very low inflation, but unemployment remained constant.
Term
What kind of theories do Real business cycle mopdels use?
Definition
They use growth models, like the Solow model.
Term
List 5 things that are productivity/technology shocks (Ut)
Definition
1.) Change of input prices
2.) Natural disasters
3.) Technology changes itself
4.) Demographics change
5.) Public Policy
Term
(RBC)What does a change in Ut look like on the AS/AD graph?
Definition
It shifts the long run AS curve
Term
4 Implications of business cycles
Definition
1.)Business cycles are efficient
-stabilization policy ineffective and costly under all circumstances
-lassez fair-minimal gvt
-gov policy should serve to increase AS by increasing productivity.
2.) Unemployment is voluntary
3.) Real Wages are procyclical-strong.
4.) Money is always neutral:n MP key- aim for low inflation
Term
What are the steps for a RBC simulation exercise:
Definition
1.) Formulate the model
2.) Calibrate the parameters of the model (exogenous variables) so that the mopdel matches what we know about the LR behavior of the economy.
3.) Calculate "productivity shocks" based on U.S. data
4.) Include those shocks in model and see how model behaves.
3.)
Term
Derive the Solow residual model
Definition
Term
What is the big problem with the RBC model
Definition
Labor hoarding raises the real question about whether or not the solow residual really captures true production shocks.
Term
Empirical evidence on RBCs
Definition
1.) Are real wages procyclical... It is midely procyclical over long run
2.) Case studies of specific recessions
Smoot Hawley Tariffs--- False.
3.) Is money neutral? No...
Term
What are the 2 contributions of RBC?
Definition
1.) It explains how some models help show changes of A‚Üíchanges in Y.
2.) RBC models are consistent with theory
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