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Short-Term Economic Fluctuations: An Introduction. Recessions and Expansions. Recession (or contraction) A period in which the economy is growing at a rate significantly below normal Depression A particularly severe or protracted recession. Recessions and Expansions. Peak - PowerPoint PPT Presentation
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MB MC
Short-TermEconomic Fluctuations:
An Introduction
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 2
Recessions and Expansions
Recession (or contraction)A period in which the economy is growing
at a rate significantly below normal
DepressionA particularly severe or protracted
recession
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 3
Recessions and Expansions
PeakThe beginning of a recession, the high
point of economic activity prior to a downturn
TroughThe end of a recession, the low point of
economic activity prior to a recovery
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 4
Recessions and Expansions
ExpansionA period in which the economy is growing
at a rate significantly above normal
BoomA particularly strong and protracted
expansion
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 5
Fluctuations in U.S.Real GDP, 1920-2004
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 6
Recessions and Expansions
Economic NaturalistCalling the 2001 recession
Business cycle dating committee of the National Bureau of Economic Research
March 2001
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 7
Recessions and Expansions
Economic NaturalistCalling the 2001 recession
Indicators of the business cycleo Industrial productiono Total sales in manufacturing, wholesale trade, and
retail tradeo Nonfarm employmento Real after-tax income of households excluding
transfers
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 8
Some Facts About Short-term Economic Fluctuations
Economic fluctuations are:Irregular in length and severity.Felt throughout the economy and may
have a global effect
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 9
Real GDP Growth in Five Major Countries, 1999-2004
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 10
Some Facts About Short-term Economic Fluctuations
Unemployment is a key indicator of short-term economic fluctuations.
Industries that produce durable goods are more affected than nondurable & service industries.
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 11
Some Facts About Short-term Economic Fluctuations
Recessions are usually followed by a decline in inflation and many have been preceded by an increase in inflation.
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 12
Output Gaps andCyclical Unemployment
Potential Output, Y* (or potential real GDP or full-employment output)The maximum sustainable amount of
output (real GDP) that an economy can produce
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 13
Output Gaps andCyclical Unemployment
Potential Output and the Output GapExplaining the variation in the growth in
output:Changes in the rate at which the country’s
potential output is increasingActual output does not always equal
potential output
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 14
Output Gaps andCyclical Unemployment
Output GapY* (potential output) - Y (actual output)The difference between the economy’s
potential output and its actual output at a point in time
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 15
Output Gaps andCyclical Unemployment
Recessionary GapY* > YA positive output gap, which occurs when
potential output exceeds actual output
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 16
Output Gaps andCyclical Unemployment
Recessionary Gap: Y* > YCapital and labor resources are not fully
utilized
Output and employment are below normal levels
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 17
Output Gaps andCyclical Unemployment
Expansionary GapY > Y*A negative output gap, which occurs when
actual output is higher than potential output
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 18
Output Gaps andCyclical Unemployment
Expansionary Gap: Y > Y*Higher output and employment than
normalDemand for goods exceed the capacity to
produce them and prices riseHigh inflation reduces economic efficiency
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 19
Output Gaps andCyclical Unemployment
The Natural Rate of Unemployment and Cyclical UnemploymentRecessionary gaps are characterized by
high unemployment.Expansionary gaps are characterized by
unusually low unemployment.
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 20
Output Gaps andCyclical Unemployment
The Natural Rate of Unemployment and Cyclical UnemploymentTypes of unemployment
FrictionalStructuralCyclical
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 21
Output Gaps andCyclical Unemployment
The Natural Rate of Unemployment and Cyclical UnemploymentNatural rate of unemployment, u*
Attributable to frictional and structural unemployment
Cyclical unemployment equals zeroNo recessionary or expansionary gapCyclical unemployment = u - u*
o total unemployment = natural rate
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 22
Output Gaps andCyclical Unemployment
The Natural Rate of Unemployment and Cyclical UnemploymentDuring recessionary gaps:
u > u* and cyclical unemployment is positive
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 23
Output Gaps andCyclical Unemployment
The Natural Rate of Unemployment and Cyclical UnemploymentDuring expansionary gaps:
u < u* and cyclical unemployment is negative
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 24
Output Gaps andCyclical Unemployment
Okun’s LawEach extra percentage point of cyclical
unemployment is associated with about a 2 percentage point increase in the output gap, measured in relation to potential output
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 25
Okun’s Law and the Output Gap in the U.S. Economy
Year u u* Y*
1982 9.7% 6.1% 5,584
1991 6.8 5.8 7,305
1998 4.5 5.2 8,950
2002 5.8 5.2 10,3421982• u - u* = cyclical unemployment• 9.7 - 6.1 = 3.6%• Output gap = 2 x 3.6 = 7.2%
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Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 26
Why Do Short-Term Fluctuations Occur? A Preview and a Parable
Why Do Short-Term Fluctuations Occur?
1. Prices may not adjust in the short-run and firms adjust output to meet demand.
2. When firms meet demand at preset prices, changes in economywide spending are the primary cause of output gaps.
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Chapter 12: Short-Term Economic Fluctuations: An Introduction
Slide 27
Why Do Short-Term Fluctuations Occur? A Preview and a Parable
Why Do Short-Term Fluctuations Occur?
3. Firms will eventually adjust prices to eliminate output gaps.
4. In the long-run, output is determined by productive capacity and spending influences only inflation.
MB MC
End ofChapter
