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Copyright 2008 The McGraw-Hill Companies15-1
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
15Extending the Analysis of Aggregate Supply
Copyright 2008 The McGraw-Hill Companies15-2
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Chapter Objectives• The Relationship Between Short-Run
Aggregate Supply and Long-Run Aggregate Supply
• Applying the Extended AD-AS Model to Inflation, Recessions, and Unemployment
• The Short-Run Tradeoff Between Inflation and Unemployment (Phillips Curve)
• Why There is No Long-Run Tradeoff Between Inflation and Unemployment
• Relationship Between Tax Rates, Tax Revenues, and Aggregate Supply
Copyright 2008 The McGraw-Hill Companies15-3
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
• Short Run
• Long Run
• Short-Run Aggregate Supply
• Long-Run Aggregate Supply
Graphically
Copyright 2008 The McGraw-Hill Companies15-4
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
Qf Q2Q3
P3
P1
P2
P3
P1
P2
AS1
Real Domestic Output Real Domestic Output
Qf
Short-RunAggregate Supply
Long-RunAggregate Supply
a1
a2
a3
a1
a2
a3
b1
c1
Pri
ce L
evel
Pri
ce L
evel
AS3
AS2 AS1
ASLR
Copyright 2008 The McGraw-Hill Companies15-5
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
Real Domestic Output
Equilibrium in theExtended AD-AS Model
Pri
ce L
evel
P1
Qf
a
AS1ASLR
AD1
G 15.1
Copyright 2008 The McGraw-Hill Companies15-6
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
Real Domestic Output
Demand-Pull Inflation in theExtended AD-AS Model
Pri
ce L
evel
P1
Qf
a
AS1ASLR
AD1
AD2
AS2
b
cP2
P3
Copyright 2008 The McGraw-Hill Companies15-7
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
Real Domestic Output
Cost-Push Inflation in theExtended AD-AS Model
Pri
ce L
evel
P1
Qf
a
AS1ASLR
AD1
AD2
AS2
b
c
P2
P3
If Government Counters Recession With Spending…
If Government Ignores Recession…
Copyright 2008 The McGraw-Hill Companies15-8
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
From Short Run To Long Run
Real Domestic Output
Recession in theExtended AD-AS Model
Pri
ce L
evel P1
Qf
a
AS1ASLR
AD1
AD2
AS2
b
c
P2
P3
Q1
Copyright 2008 The McGraw-Hill Companies15-9
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
The Inflation-Unemployment Relationship
The Short-Run Effect of Changes on Real Output and the Price Level
Real Domestic Output
Pri
ce L
evel
0
P0
P1
P2
P3
Q0 Q1 Q2 Q3
AD0
AD1
AD2
AD3
AS
Copyright 2008 The McGraw-Hill Companies15-10
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
0
1
2
3
4
5
6
7
0 1 2 3 4 5 6 7
Unemployment Rate (Percent)
An
nu
al
Ra
te o
f In
fla
tio
n (
Pe
rce
nt)
0
1
2
3
4
5
6
7
0 1 2 3 4 5 6 7An
nu
al
Ra
te o
f In
fla
tio
n (
Pe
rce
nt)
Unemployment Rate (Percent)
The Inflation-Unemployment Relationship
• The Phillips Curve–Inverse Relationship–Inflation and Unemployment
69
68
6766
65
64
6362
61
Concept Empirical DataData for the 1960s
O 15.1
Copyright 2008 The McGraw-Hill Companies15-11
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
The Inflation-Unemployment Relationship
• Adverse Supply Shocks and the Phillips Curve–Stagflation
• Adverse Aggregate Supply Shocks–OPEC Oil Price Shock–Stagflation’s Demise
Copyright 2008 The McGraw-Hill Companies15-12
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
The Inflation-Unemployment Relationship
• Long-Run Phillips Curve
• Short-Run Phillips Curve
• Long-Run Vertical Phillips Curve
• Disinflation
O 15.2
Copyright 2008 The McGraw-Hill Companies15-13
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
The Inflation-Unemployment Relationship
The Long-Run Vertical Phillips Curve
3 4 5 60
3
6
9
12
15
An
nu
al R
ate
of
Infl
atio
n (
Per
cen
t)
Unemployment Rate (Percent)
PCLR
PC3
PC2
PC1
a1
b1
a2
a3
b2
b3
c3
c2
Copyright 2008 The McGraw-Hill Companies15-14
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Taxation and Aggregate Supply
• Supply-Side Economics• Tax Incentives to Work• Tax Incentives to Save
and Invest• The Laffer Curve
Tax
Rat
e (P
erce
nt)
Tax Revenue (Dollars)
100
m
0
n
l
m
Laffer Curve
MaximumTax Revenue
Copyright 2008 The McGraw-Hill Companies15-15
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Taxation and Aggregate Supply
• Criticisms of The Laffer Curve–Taxes, Incentives, and
Time–Inflation and Higher Real
Interest Rates–Position on the Curve
• Rebuttal and Evaluation
Copyright 2008 The McGraw-Hill Companies15-16
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Tax Cuts for Whom?
• 10 People Have Breakfast Together for $100
• Charges are Divided in the Way Americans Pay Taxes
• 4 Poorest Pay Nothing, Fifth Pays $1, Sixth Pays $3, Seventh Pays $7, Eighth Pays $12, Ninth Pays $18, Tenth the Richest Pays $59
• Works Fine Until Price is Cut by $20 – How to Divide the Cut?
Last
Word
A Supply-Side Anecdote
Copyright 2008 The McGraw-Hill Companies15-17
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Tax Cuts for Whom?
• $20 Divided by 6 = $3.33 Resulting in Fifth and Sixth Being Paid to Eat Breakfast
• Cook Suggests Dividing Proportionate to Price Paid by Each
• Results in First 5 Paying Nothing, Sixth $2, Seventh $5, Eighth $9, Ninth $12, and Tenth Pays $52
• Each of the Paying 6 are Better Off Than Before
Last
Word
A Supply-Side Anecdote
Copyright 2008 The McGraw-Hill Companies15-18
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Tax Cuts for Whom?
• Conflict Erupts Over Who Got How Much Relief – The Majority Going to the Richest
• When Confronted the Richest Diner Didn’t Come the Next Day.
• Surprise – They were $52 Short Without the Richest Payer
Last
Word
A Supply-Side Anecdote
Copyright 2008 The McGraw-Hill Companies15-19
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Tax Cuts for Whom?
• Morals: People Who Pay the Most Taxes Reap the Most Benefit From Tax Cuts
• Redistributing Tax Reductions at the Expense of those Paying the Highest Taxes May Produce Unintended Consequences!
Last
Word
A Supply-Side Anecdote
Copyright 2008 The McGraw-Hill Companies15-20
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
Key Terms• short run
• long run
• Phillips Curve
• stagflation
• aggregate supply shocks
• long-run vertical Phillips Curve
• disinflation
• supply-side economics
• Laffer Curve
Copyright 2008 The McGraw-Hill Companies15-21
From Short-Run to Long-RunExtended AD-AS ModelThe Inflation-Unemployment RelationshipPhillips CurveTaxation and Aggregate SupplyThe Laffer CurveLast Word
Key Terms
End Show
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