Unit 5 Vocabualary

new keynesian economics

A body of macroeconomic thought that stresses the stickiness of prices and the need for activist stabilization policies through the manipulation of aggregate demand to keep the economy operating close to its potential output. It incorporates monetarist ideas about the importance of monetary policy and new classical ideas about the importance of aggregate supply, both in the long run and in the short run. imperfections can lead to price stickiness for the economy as a whole.

phillips curve

A graph showing the relationship between inflation and unemployment . The theory states that unemployment can be reduced in the short run by increasing price level (inflation) at a faster rate. Conversely, inflation can be lowered at the cost of possibly increased unemployment and slower economic growth.

monetary rule

a formula that determines the central bank's actions. Jurisdiction rarely or never deviates from established norms.

short run phillips curve

a graphical representation of the negative short-run relationship between the unemployment rate and the inflation rate.

inflation tax

a reduction in the value of the money held by the public, by printing money to cover its budget deficit and creating inflation. When ever money is being held, inflation tax exists.

taylor rule (monetary policy)

a rule for setting the federal funds rate that takes into account both the inflation rate and the output gap

stagflation

a situation where the inflation rate is high, the economic growth rate slows down, and unemployment remains steadily high. Perhaps one of the most undesirable conditions in an economy.

real business cycle

a theory of business cycles that asserts that fluctuations in the growth rate of total factor productivity cause the business cycle. This regards random fluctuations in productivity as the main source of economic fluctuations

monetarism

a theory of business cycles, associated primarily with Milton Friedman, that asserts that GDP will grow steadily if the money supply grows steadily. It argues that excessive expansion of the money supply is inherently inflationary, and that monetary authorities should focus solely on maintaining price stability.

rational expectations theory

a theory of expectation formation that holds that individuals and firms make decisions optimally, using all available information. More simply, the idea that households and businesses will use all the information available to them when making economic decision

quantity theory of money

a theory that emphasizes the positive relationship between the price level and the mone supply. It relies on the equation (M × V = P × Y).

new classical macroeconomics

an approach to the business cycle that returns to the classical view that shifts in the aggregate demand curve affect only the aggregate price level, not aggregate output. Basically workers and firms develop expectations about price levels. If these expectations are wrong, then the real wage will be too high or too low, causing firms to reduce or increase employment respectively - recession or expansion

supply shocks

an event that suddenly changes the price of a commodity or service. It may be caused by a sudden increase or decrease in the supply of a particular good. This sudden change affects the equilibrium price.

disinflation vs. deflation

deflation represents the opposite of inflation, which is defined as an increase in the overall price level over a period of time. in contrast, disinflation, represents a period when the inflation rate is positive, but declining over time. They each represent different behavior of the price level.

public debt

government debt held by individuals and institutions outside the government. This is really the total amount that the federal government owes its creditors.

cost-push inlfation

inflation that is caused by a significant increase in the price of an input with economy-wide importance The increased price of the factors of production leads to a decreased supply of these goods.

demand-pull inflation

inflation that is caused by an increase in aggregate demand. This is asserted to arise when aggregate demand in an economy outpaces aggregate supply. It involves inflation rising as real gross domestic product rises and unemployment falls, as the economy moves along the Phillips curve..

fiscal policy lags

lag is the amount of time it takes for a government or central bank's actions, in the form of fiscal policy, to have a noticeable effect on the economy. Fiscal policy lags are the result of delays in recognizing problems with the economy and applying solutions.

contractionary monetary policy

monetary policy that decreases aggregate demand(selling securities, bonds, or t-bills), money supply decreases, higher interest rates, lower investment and consumer spending This policy is often used when in an inflationary gap.

expansionary monetary policy

monetary policy that increases aggregate demand (buying securities, bonds, or t-bills), money supply increases, lower interest rates, higher investment and consumer spending This policy is often used in a recessionary gap.

velocity of money

nominal GDP (aggregate price level(P) * aggregate output(Y))/nominal quantity of money(M) -# of times the average unit of money is spent This formula describes the frequency at which one unit of currency is used to purchase domestically.

long-run phillips curve

relationship between unemployment and inflation in the long run after expectations of inflation have had time to adjust to experience.

liquidity trap

situation in which monetary policy is ineffective because nominal interest rates are up against the zero bound. When injections of cash into the private banking system by a central bank fail to decrease interest rates and hence make monetary policy ineffective, liquidity trap is faced.

supply side fiscal policy

tax decreases lead to economic growth. This policy is intended to increase an economy's productive capacity by shifting aggregate supply

zero bound

the fact that interest rates cant go below zero limits the power of monetary policy This is essentially a macroeconomic problem that occurs when the short-term nominal interest rate is at or near zero, causing a liquidity trap and limiting the capacity that the central bank has to stimulate economic growth.

debt-gdp ratio

the government's debt as a percentage of GDP A low debt-to-GDP ratio indicates an economy that produces and sells goods and services sufficient to pay back debts without incurring further debt.

natural rate hypothesis

the hypothesis that the unemployment rate is stable in the long run at a particular natural rate. According to this hypothesis, attempts to lower the unemployment rate below the natural rate of unemployment will cause an ever-rising inflation rate. This is the sum of frictional and structural unemployment rates, ignoring any cyclical unemployment rates. This is the sum of frictional and structural unemployment rates, ignoring any cyclical unemployment rates.

non-discretionary fiscal policy

the increases in net taxes which occur without congressional action when NE+NP rises or falls which tends to stabilize the economy. These are automatic stabilizers; policies already in place.

inflation targeting

the method of announcing the inflation rate that they want to achieve (the inflation target) and set policy in an attempt to hit that target. This insures that inflation doesn't get too uncontrollable because a sustainable rate is established.

debt deflation

the reduction in aggregate demand arising from the increase in the real burden of outstanding debt caused by deflation; occurs because borrowers, whose real debt rises as a result of deflation, are likely to cut spending sharply, and lenders, whose real assets are now more valuable, are less likely to increase spending. This holds that recessions and depressions are due to the overall level of debt shrinking.

equation of exchange

the relation: where, for a given period, is the total nominal amount of money supply in circulation on average in an economy, is the velocity of money, that is the average frequency with which a unit of money is spent. Simply, the quantity of money in circulation times its average rate of turnover is equal to the average price level times the quantity of goods.

nonaccelerating inflation rate of employment

the unemployment rate at which, other things equal, inflation does not change over time. Most economists believe that there is a natural rate of unemployment that the economy gravitates towards when inflation is kept constant.

money neutrality

when changes in the money supply have no real affect on the economy This implies that only nominal variables are affected in the economy

crowding out effect

when increased interest rates lead to a reduction in private investment spending such that it dampens the initial increase of total investment spending The government often is the one to utilize this method.