Please enable JavaScript.
Coggle requires JavaScript to display documents.
Topic 8&9: Classical and Keynesian Model (The classical model…
Topic 8&9: Classical and Keynesian Model
The classical model
Assumes price and wage
adjust rapidly
=>
money neutrality
business cycles
real shocks
are primary causes of business cycles
real shocks
affect the
real side
of the economy, affecting IS curve or FE line
examples of real shocks
spending and saving decision of customers
real quantity to government purchases
productivity shocks
(should clearly distinguish its causes and effects)
adverse productivity shocks
(A decreases) => demand for labour falls => FE line shifts to the left => supply > demand => P increases => MS decreases => LM curve will shift to the left => interest rate increases and output decreases
business cycle facts
?
procyclical inflation
: inflation tends to slow down during or immediate after recessions (RBC cannot explain this fact)
RBC predicts
countercyclical movements
of the price level : recession is associated with inflation
Solow residuals
A temporary increases in government purchase
rise in current or future taxes => reduce wealth => labor supply increases =>
FE curve shifts to the right
national savings decline => savings curve shift to the left =>
IS curve will shift to the right
Fiscal policy
: not necessary because the price will adjust to bring all markets into equilibrium
Money in the classical model (page 26 lecture slide)
Neutral in any time horizon because price adjust rapidly
The misperception theory
producers have imperfect information about the general price level
they misinterpret changes in the
general price level
as changes in
relative price
SRAS curve is upward sloping
In the short- run: money is not neutral because of
unanticipated monetary policy
In the long run: money is neutral because
everything is anticipated in the long run
Rational expectation theory
: people make intelligent forecast about the future => central bank will not be able to surprise the public
assumes
perfect competition
(P=MC=MR): change in MC will change in P => price adjust rapidly
no unemployment
Keynesian model
AD shocks are important to shape business cycles (due to IS and LM curve)
Recession leads to cyclical unemployment
Real wage rigidity
is a source of unemployment
Price stickiness
price adjust slowly
sources of price stickiness
monopolistic competition
P > MC=MR: therefore, change in marginal cost will not change in price
menu costs
short- run
: menu costs > loss from sticky price => price will
not
change
long- run
: loss from sticky price > menu costs =>
price will change
prices are sticky in the short- run
IS- LM
: economy lies at the intersection of IS and LM curves, maybe off the FE line
AD- AS
: economy lies at the intersection of AD and SRAS curves, maybe off the LRAS line
assumption: page 22
Macroeconomic stabilization (
page.37?
)
In
Keynesian model
: using monetary/ fiscal policy has the advantage of
acting quickly
, rather than waiting some time for the price level to adjust
to change the
IS curve
: using
fiscal policy
(such as increase in government purchase)
to change the
LM curve
: using
monetary policy
(such as increase in money supply)