econ 101 test 3
types of price indexes
CPI (consumer price index)- measures the avg price for a basket of goods/services bought by the typical american consumer; weighted differently for major/minor items (house vs toothpaste), changes to account for new goods and change in quality, usually used to monitor daily economic activity; usually used to calculate "real prices" and is sometimes an overestimate GDP Deflator: covers all goods and serves, measure rate of inflation, =nom GDP/real GDP PPI(producer price index)- measures the avg price received by producers and it includes both intermediate and final goods; generally used to calculate changes in the price of inputs
labor regulations and structural unemployment
-usually countries with more generous/wider ranging labor regulations have more structural unemployment (ex. Europe) -labor regs include unemployment benefits, minimum wages/unions, unemployment protection laws
The supply of savings: smooth consumption
1) smooth consumption: by saving in the good years, workers can build up a cushion of wealth to draw from in bad years, thereby smoothing their consumption across all years ---path A: C=I during prime working years which leaves you with a lot less money when retired ---path b: smooth pathway, C<I during working years to save so you can dissave (C>I) during retirement
who controls the fed?
1)The Board of Governors-seven members appointed by the President and confirmed by the Senate for 14 year terms. The chairperson: appointed by the president from the board for 4 year term(s). -The U.S. is divided into 12 regions with a Federal Reserve bank in each. -5 regional bank presidents and the members of the Board of Governonrs participate on the FOMC, the most important policy making body of the Fed. no one has complete control over the Fed policy which is a GOOD thing
the quantity theory of money
1. Sets out the general relationship between inflation, money, real output and prices 2. Presents the critical role of the money supply in regulating the level of prices Mv=PY(r) and generally increases in M cause increases in P so inflation is pretty much caused by an increase in the supply of money M= money supply v= velocity of money (avg number of times a dollar is spent on final goods/services in a year) P= price level Y(r)=real GDP -usually Y(r) is held constant because we assume GDP is fixed by factors of production v is usually fixed because generally the same kind of factors influence how you spend your money
supply of savings: impatience
2) impatience- revolves around time preference (desire to have goods sooner rather than later); more impatient= lower savings rate, impatient ppl weigh upfront costs highly and discount future benefits
supply of savings: marketing/psychological factors
3) marketing/psychological factors: people will usually save more if saving is presented as the natural/default alternative (ex. retirement plan study); part of behavioral economics, or the field combining econ, psyc, and neurology to study how people make decisions and overcome biases in decision making
supply of savings: interest rates
4)the interest rate- how much savers are paid to save, higher rates yield higher savings, just a convenient way of expressing the price of savings (kind of like market price)
money
a widely accepted means of payment, 4 main types all of which are money but NOT currency 1) currency- aka federal reserve notes; include paperbills/coins 2) total reserves held by banks at the Fed: electronic claims (from big banks with fed accounts) that can be converted into currency if the bank wishes 3) checkable deposits: your checking/debit acct and ability to write checks; also called demand deposits, this kind of money is used most frequently on day to day basis 4)savings deposits, money market mutual funds, small time deposits: usually require extra work/time to attain (aka less liquid); MMMF is money invested in safe, short term gov securities that allows you to write a certain number of checks per year; small time deposits can't be withdrawn without penalty
liquid asset
an asset that can be used for payments or can be quickly converted into an asset that can be used for this without a loss of value --currency, checkable deposits, and reserves are very liquid --currency:total reserves: checkable deposits:saving deposits: short term: MMMF is list from most liquid to most illiquid
fractional reserve banking
banks only hold a fraction of deposits in reserve, lending the rest -banks are required to keep some reserves to meed ordinary depositor demand -both parties profit from this, you get interest and the ability to write checks while they can loan more to increase profit
real shocks
fiscal policy doesn't work well to combat real shocks -neg shock shifts solow to the left which puts us in a recession -gov increases spending to combat but since economy is already less productive because of the shock, it really boosts inflation (crowds out spending) -can increase GDP by a little
fiscal policy: good or bad
good when.. Fiscal policy matters most when 1.The economy needs a short-run boost, even at the expense of the long run (war) 2.The problem is a deficiency in aggregate demand rather than a real shock 3.Many resources are unemployed bad when... 1. too high of a debt can drive nation into ruin by undercutting credibility of the gov (would reduce growth)
marginal propensity to consume (MPC)
how much you spend vs save for every US dollar, number given tells you % spent -higher MPC increases the multiplier effect because Multiplier=1/(1-MPC)
inflation basics
inflation: an increase in the average level of prices, measured by indexes inflation rate: the % change in the avg level of prices over a period of time (P2-P1/P1)100 where the variables are the index value for the SAME good in different years
what is the federal reserve
large and powerful central US bank that has power of... 1. creating money and lending it in ways that will increase AD or spending 2. act as the governments bank by managing the issuing, transferring, and redeeming of t bonds bills and notes AND by maintaining general US treasury accounts 3. acts as bankers bank by holding accounts of some large private banks (may be required or preferred on banks behalf) 4. regulates the banking system and lends money to other banks 5. regulates the system of accounts that makes it possible to write checks from one bank to another
equilibrium in the market for loanable funds
market for loanable funds: occurs when suppliers of loanable funds (savers) trade with demanders of loanable funds (borrowers), trading in this market determines the equilibrium interest rate -I rate> Equlibrium, there is a surplus of savings -if <equilibrium, there is a shortage of savings -changes in economic conditions will shift the supply or demand curve and change the equilibrium interest rate and quantity of savings (shifts just like S/D) - when demand of loanable funds is low and economy is in a recession, gov can contract this with temp tax breaks for those investing in capital goods
minimum wages/unions
minimum wages: raise the price of labor from market to minimum which causes more unemployment because it makes labor more expensive (kinda like price floor) -median wage: the wage such that half of all workers can earn wages above median and half earn below -when min wage>median wage, you have more unemployment (like france) unions: an association of workers that bargain collectively with employers over wages, benefits, and working conditions; they demand higher wages by using the power to strike/prevent firms from hiring substitutions; essentially has same effect as minimum wage
nominal wage confusion/menu costs
nom wage confusion: when workers respond to the wage # on their paycheck (nominal wage) rather than to what their wage can buy them in terms of goods/services (real wage corrected for inflation) menu costs- the costs of changing prices, since ppl respond quickly to price changes, businesses wait to determine if these changes are temp or permanent before they change prices themselves -the time it takes for economy to adjust to spending changes is influenced by sticky wages, the misrepresentation of menu costs, and the time it takes for expectations to adjust
ricardian equivalence
occurs when people see that lower taxes today mean higher taxes later, they save their tax cut to pay future taxes -describes some but not all -to the extent that this occurs, bond financed tax cuts are less effective in the short run
failed financial intermediation: insecure property rights
saved funds are not always immune from later confiscation, freezes, or other restrictions... this discourages people to save because their funds are up for grabs, which in turn lowers contribution to economic growth -individuals that lack trust in their corporations are reluctant to invest in stocks of those corporations - law is part of it, but custom and informal trust influence this a lot as well
saving vs investment
saving: income that is not spent on the consumption of goods investment: purchase of new capital goods (machinery, tools, etc); requires purchase of new capital - economic investment is different than stock investment
financial crisis: shadow banking
shadow banks are alternative banks (hedge funds, money markets and investment banks) that have grown up in the shadow of traditional commercial banks -during crisis they were lending more than traditional banks -this is bad because shadow banks aren't backed by FDIC and aren't heavily regulated -When investors got worried about Lehman Brothers' solvency, it set off a wider bank panic and government bailouts.
dynamic aggregate demand curve
shows all of the combinations of inflation and real growth that are consistent with a specified rate of spending growth - in case of AD, M + V = Inflation + real growth; but M and V are growing at a constant rate so if AD is 5%, M+V=5 -shows that where theres more spending and the same amt of goods are produced, prices rise (inflation>real growth) -if money is chasing an increased quantity of goods, inflation < increase in real growth -positive shifts in AD move it up and to the right and negative move down and left
inflation is painful to stop
slowing down the money supply can put economy in a recession because although prices have lowered, the loans/wage agreements/contracts that have been adjusted to the expected rate are now way to high which would put a lot of people out of work -only in the long run, as expectations adjust, does the economy move to a point where both inflation and unemployment are low
the solow growth curve
solos growth rate: an economy's potential growth rate, the rate of economic growth that would occur given flexible prices and the existing real factors of production -equal to the real growth rate in the long run - it doesn't depend on the rate of inflation -represented by vertical line -The equilibrium inflation rate and growth rate are determined by the intersection of the AD and Solow growth curves
financial intermediation: the stock market
stock: aka shares, are certificates of ownership in a corporation; shareholders receive a larger profit when the company is doing really well bc they pay dividends after all other costs -shareholders benefit directly from dividends and indirectly from increased value of stock -stocks are traded in organized markets called stock exchanges -inital public offering: the first time a corporation sells stock to the public to raise capital; they can increase investment if the money is spent on new capital goods to help boost a business -for these reasons stock markets encourage investment and growth which in turn encourages innovation
failed financial intermediation: bank failures and panics
systematic problems in the banking system generally lead to large scale economic crisis -banks fail so people lose savings which makes them spend less so small businesses fail -the federal reserve: the US central bank that is charged with overseeing the general health of the banking industry
systemic risk/moral hazard
systemic risk- the risk that the failure of one financial institution can bring down others as well; preventing this is important job of Fed Moral Hazard: occurs when banks and other financial institutions take on too much risk, hoping that the Fed and regulators will later bail them out
when financial intermediation fails
the bridge between savers and borrowers is broken by decreasing the supply of savings, increasing the cost of interemdiation, and decreasing the effectiveness of lending. there are four main sources of failure: insecure property rights, controls on interest rates, politicized lending/gov owned banks, and bank failures/panics
federal funds rate
the overnight lending rate from one major bank to another -fed uses this because they have the most control over it and it is a convenient signal of monetary policy -to lower the FF rate, fed will buy bonds -to increase the FF rate, the fed will sell bonds
frictional unemployment
the short-term unemployment caused by the ordinary difficulties of matching employee to employer -caused by scarcity of info (workers don't know all jobs available and employers don't know all of candidates) but internet has helped usually frictional employment doesn't last very long and during non recession years it consumers a significant amount of US unemployment creative destruction: creating new jobs and destroying old ones aka the difference between hires and layoffs; can occur at firm and industry level
fed controlling money supply: open market operations
this is the buying and selling of US gov bonds on the open market to increase money supply -usually fed buys/sells most short term form (T-bills) -goal is to increase reserves or money supply to boost the multiplier effect and let it spread through the pyramid, higher MM= better results generally in the short run (bc money is neutral).... -buying bonds will increase MS and decrease interest rates which is GOOD (usually bond prices will rise) -selling bonds will decrease MS and increase interest rates which is BAD (usually bond prices will lower)
cyclical unemployment
unemployment that fluctuates with the business cycle fluctuations -lower growth=higher unemployment and vice versa - when the unemployment is high, it is an indicator that less goods/services will be produced because of idle labor/capital -unemployment tends to fall when growth is above avg and it increases when growth is less than the average -cyclical can turn into structural if they stay unemployed for too long
unemployment and labor force participation
unemployment: those who do not have a job but are LOOKING FOR WORK and are over 16 yrs old, not institutionalized (prison), and are civilians -labor force= all workers employed+unemployed (doesn't include ppl who just don't want a job) -u rate= (#unemployed/LF)100 -LF participation rate is the percent of adult, civilian, noninstitutionalized population in the labor force -discouraged workers: ppl who have given up job searching but still want a job - the u rate is good because its the best indicator of how the labor market is performing and how much the economy is underperforming (wasted capital not being put to good use) - it is bad because it doesn't account for discouraged workers and doesn't measure the quality of the new jobs ppl take or how well workers are matched to proper jobs -Underemployment Rate: A Bureau of Labor Statistics measure that includes part-time workers who would rather have a full-time position and people who would like to work but have given up looking for a job
failed financial intermediation: controls on interest rates
usury laws: max ceiling on the interest rate that can be charged on a loan..these laws cause 1. shortage of credit yielding a decreased number of borrowers 2. decreased savings 3. misallocation of savings and loss of potential gains from intermediation 4. investment (determined by S of savings) will fall below Equilib qty
hyperinflation
when inflation is moderate and stable, lenders and borrowers can forecast well and their loans can be signed with rough certainty regarding future payment -when inflation is high and volatile (hyper), long term risk increases and loans may not be signed at all.. this causes the break down of financial intermediaries
monetizing the debt and wage distribution
when the govt pays off its debts by printing more money; transfers wealth from the saver to the borrower (the gov) -wages agreements are usually made years in advance so when inflation is underestimated wages are too low ( not enough workers) and they are too high when inflation is overestimated (too many workers) SO errors in estimating the inflation rate lead to a misallocation of resources and lower economic growth
labor force participation
((unemp+emp)/population)100 1. peaks in prime working years (25-54) BUT baby boomers have affected rates bc they will all be retiring soon and this lowers the LF participation rate while lowering and the demand for ss and medicare will rise 2. work depends on the different between what work pays and what leisure pays -The choice to work can be influenced by taxes on working and benefits to nonworkers -Taxes discourage work and benefits encourage nonwork -the higher the implicit tax (penalty) the lower the LF participation rate
Fed influence on AD and monetary policy
- fed ultimately wants to influence AD (ex. buy bonds to increase MB) but their efforts don't have guaranteed effects - they must predict and monitor fraction of reserves banks will lend, how fast increase in MB will increase M1 and M2, how low short term interest rates need to be to stimulate investment borrowing, and how businesses will use that money borrowed
cost of inflation
- inflation destroys the ability of the market prices to send signals about the value of resources/opportunities -causes price confusion and money illusion which leads to resources being wasted and used for less productive uses and for entrepreneurs to be less responsive to profitable ventures Price confusion: difficult to sort out the relative strength of inflation versus a general increase in prices due to change in demand money illusion: when people mistake changes in nominal prices (just price change) for changes in real prices (including wages)
gov spending vs tax cuts as expansionary fiscal policies
- political and economic differences -political: tax cuts put more money into hands of private sector, favored by republicans;-->spending makes economy grow, favored by democrats -economic: gov spending is a more certain influence on the economy but it is slower>>> tax cuts increase spending only if people don't save their new money -ppl skeptical about gov like tax cuts and people who want gov to spend more favor give spending
failed financial intermediation: politicized lending and govt owned banks
-Government owned banks are useful to authoritarian regimes that use the banks to direct capital to political supporters -The larger the government owned banks, the slower the GDP growth rate
quantitative easing vs tightening
-If the Fed wants to influence long-term interest rate then it might buy longer-term government bonds or other longer-term securities in the 10 to 30 year range - Q easing: fed buys longer term govt bonds/securities -Q tightening: fed sells longer term gov bonds and securities
financial crisis: securitization
-Loans can be bundled together ("securitized") and then sliced up and sold on the market as financial assets. good? provides safety and liquidity for the bank selling the securitized mortgages bad? securitization can HIDE risk and bad loans -Because the mortgages had been bundled and sold and bet on so many times, there was much uncertainty on which company was going to suffer the biggest losses
unemployment benefits
-Unemployment benefits reduce the incentive for workers to search for and take new jobs -examples are unemployment insurance/housing assistance -unemployment benefit replacement rates make the price of unemployment lower the higher the replacement rate is (ex. in europe 80% of income is returned so they are encouraged to not work)
matter of timing
-fiscal policy is intended to correct short term problems but by the time some changes are in place, economic conditions have often changed relevant lags include: -recognition lag, legislative lag (congress propose/pass), implementation lag, effectiveness lag (time takes to work), and evaluation/adjustment lag -monetary policy is quicker to act in all lags except for effectiveness bc that depends on how banks use the increase in MS
bonds and the government
-generally safe assets for lenders because gov tends to be reliable with paying back; the safest assets are also those issued by large corporations - Tbonds- 30 yr, pay interest every 6 months -Tnotes- maturity of 2-10 yrs, interest every 6 months -T bills: bonds that only pay at maturity (zero-coupon/discount bonds) with it lasting a few days-26 weeks -Rate of return for zero coup bond= (FV-PV)/PV * 100 - arbitrage: the buying and selling of equally risky assets that ensure that they cam learn equal returns, otherwise no one would buy an asset with a lower rate
how inflation redistributes wealth
-inflation can be considered a tax because it transfers real resources from citizens to the government -Inflation can reduce the real return that lenders receive on their loans, in effect transferring wealth from lenders to borrowers; thus when lenders expect increases in inflation, they will demand a higher interest rate -real interest rate= nominal interest rate (i)-inflation (pi) -the fisher effect: is the tendency of nom interest rates to rise with expected inflation rate; denoted by i=Epi+r(equilib) -Epi=expected inflation; r(e)=equilibrium real rate of return -to combine the two equations, we say that r(real)=(Epi-pi)+r(e)
best case scenario: multiplier effect
-recession causes consumption to decrease which shifts AD down -gov spends more to compensate and even though it does this through taxes/borrowing (aka counter productive) it still increases someones income which increases more spending which in turn increases someone else's income -Multiplier Effect: the additional increase in AD caused when expansionary fiscal policy increases income and thus consumer spending
crowding out
-the decrease in private spending that occurs when government increases spending *can occur due to raising taxes: --higher taxes reduce private spending --can decrease tax cuts to encourage more spending but when they offer rebates (handed a check), people use to pay off debt bc it isn't permanent --implication: fiscal policy is most effective when people are others afraid to spend their money *selling more bonds to finance fiscal policy --increases the supply of bonds, which causes bond prices to fall and interest rates to rise (reducing private investment bc people don't want those bonds and private consumption because they are saving (bought bonds) --implication: policy will be most effective when private sector doesn't want to spend/invest
shocks to aggregate demand
AD shock: a rapid and unexpected shift in the AD curve(aka spending); these shocks take time to work through economy -In the long run an increase in spending will only affect inflation but in the short run it is split between inflation and increase in real growth
relation between expected inflation and inflation
Epi<pi; unexpected inflation which means that the real rate<equilibrium rate and that lenders are harmed while borrowers benefit Epi>pi; unexpected disinflation; causes real rate to be greater than the equilibrium rate; lenders benefit and borrowers are harmed Epi=pi is expected inflation; real rate=equilibrium rate; no redistribution of wealth
fiscal policy
federal govt policy on taxes, spending, and borrowing that is designed to influence business fluctuations -two general ways to promote more spending: 1. The government spends more money 2. The government cuts taxes, giving people more money to spend
financial crisis: leverage
Leverage: borrowing money to finance the purchase of assets, households/banks became much more "leveraged" -owners equity: the value of the asset - the debt (E=V-D); gives the bank a cushion incase borrower defaults -leverage ratio: the ratio of debt to equity (D/E), the lower the better, borrowing more with lower down payments increased the lev ratio -high lev ratios cause firms to be insolvent, or to have liabilities exceeding assets, this usually is followed by bankrupcy
definitions of money supply
MB: monetary base, currency and total reserves held at the fed (base of pyramid) M1: checkable deposits and currency (middle of pyramid) M2: M1+ savings deposits, MMMFs, and small time deposits(top of pyramid) **M1/M2 affect AD the most; also the pyramid represents issue that MB can't completely control other parts leaving freedom to grow/shrink independently**
kinds of positive/negative AD shocks
Positive: faster money growth rate, confidence, increased wealth, decreased taxes, increased gov spending, increased export growth, decreased import growth Negative- slower money growth rate, fear, decreased wealth, increased taxes, decreased gov spending, decreased export growth, increased imports -the great depression has been the largest negative AD shock in history -shocks to AD and shocks to the solow growth curve are usually related in most recessions
Short Run Aggregate Supply Curve
SRAS, shows positive relationship between the inflation rate and real growth during the period when prices and wages are slow to adjust, or sticky. -is associated with a particular rate of inflation or Epi - + slope shows that a shift in AD will cause inflation and real growth to act in the same way -SRAS always moves to where the AD is intersecting the Solow curve, so generally however much spending increases will add the same amount to the expected inflation rate to get the actual one -when AD falls, prices and wages adjust even more slowly possibly causing a recession
financial intermediation: banks
banks receive savings from ppl, pay them interest, loan these funds to borrowers and investors, and then charge these people with interest - earn profit by charging more for loans than they pay for savings -they evaluate investments through loan approval which exemplifies the benefits of division of labor and specialization -they they spread risk by encouraging increased lending and investment, when borrower defaults on a loan they bank spreads this loss across the span of lenders who deposit money
financial intermediation: the bond market
bond: a sophisticated corporate IOU that documents who owes how much and when payments need to be made.. someimtes you pay all on one day, other times you pay periodically (coupon payments) - more well known corp's generally borrow using bonds default risk: the risk that when payments come due, the borrower won't be able to pay... risk can be graded on a scale of AAA-D; bonds with rating < BBB- are called "junk bonds" - the riskier a company is, the higher an interest rate it will extend to people who lend to them to compensate for the high risk collateral: something of value that by agreement becomes the properly of the lender if the borrower defaults -interest rates and bond prices move in opposite directions: higher rates= lower prices, lower rates=higher prices - lenders want rates to lower so they can lock in a higher return without having to pay as much and vice versa for bond sellers
cause of inflation
caused by an increase in the supply of money, or increase in M -qty theory of money can also be written in terms of growth rates (use arrow over variable) which would make P=inflation and M=inflation rate -this tells us that the growth rate of the money supply is equal to the inflation rate -Prices typically decrease a bit every year as Yr increases faster than M; in the SHORT RUN: increases in M can increase Y(r) and vice versa but it doesn't last for long -when v increases, it can accelerate inflation more; when it decreases this fuels a decrease in the average level of prices deflation: decrease in the avg level of prices disinflation: a reduction in the inflation rate, can be caused by a more moderate decrease in V or M -IN THE LONG RUN MONEY IS NEUTRAL
Shocks to components of AD
change in V(growth) can be broken down into changes in the growth of consumption,investment,gov purchase, or net exports -changes to these components are temporary bc of sticky wages/prices and in the long run changes in these components do not change the inflation rate
automatic stabilizers
changes in fiscal policy that stimulate AD in a recession without explicit action by policy makers -examples: welfare/transfer programs (increases income/consumption for unemployed), consumption smoothing (credit cards/using savings when running low on money), durable assets, availability of used goods
limits to fiscal policy
difficult shifting AD when.. 1. Crowding out: If government spending crowds out or leads to less private spending, then the increase in AD is reduced or neutralized on net 2. A drop in the bucket: the economy is so large that government can rarely increase spending enough to have a large impact 3. A matter of timing: it can be difficult to time fiscal policy so that the AD curve shifts at just the right moments but sometimes spending isn't problem.. 4.Real Shocks: Shifting AD doesn't help much to combat real shocks
employment protection laws
employment at will doctrine: says an employee may quit or employer may fire for any time and any reason, most BASIC US employment law -there can be exceptions like contracts, severance packages, noncompete agreements, etc. -europe uses public laws/collective bargaining to control these things -ridigity of employment index summarizes hiring/firing costs and how easy it is for firms to adjust working hours (higher index yields higher unemployment) -Create valuable insurance for workers with a full-time job -Make labor markets less flexible and dynamic (hiring and firing costs, hard to find job when every job requires long-term commitment from the employer) -Increase the duration of unemployment -Increase unemployment rates among young, minority or "riskier" workers tale of two riots illustrates how "insiders" are reluctant to give up benefits for the sake of unemployed "outsiders" active labor markets: focus on getting unemployed workers back to work
fed controlling money supply: discount rate lending/term auction facility
fed can lend readily because it can make money whenever needed -lender of last resort fed loans money to banks and other financial institutions when no one else will -discount rate: the interest rate set by the Fed that banks pay when they borrow directly from the fed -discount rate lending serves to help banks out when in financial stress and make private bank loans work more smoothly, generally helps illiquid but SOLVENT banks -term auction facility: discount rate set, banks choose if they want to lend, designed to give the fed more control over MS to prevent problems such as... -solvency crisis: occur when banks become insolvent (liabilities>assets); legally banks have to reserve some assets in effort to prevent this, generally leads to bankruptcy -liquidity crisis: occurs when banks have the assets but if necessary they could not pay back the liabilities at one time THE FDIC (federal deposit insurance corp) insures deposits which reduces bank panics
the demand to borrow and major factors
people borrow to smooth consumption and finance large investments 1) smooth consumtion: credit markets and ability to borrow help people smooth consumption when they don't have a lot of money; the lifecycle theory of savings connects supply of savings and demand to borrow ( borrowing(college, 1st house), saving(prime working years), and dissaving(retirement) allows workers to smooth consuption path over lifetime, improving overall satisfaction) 2) borrowing is necessary to finance large investments: ppl with best ideas aren't those with the most money, most businesses can't get underway without borrowing, the ability to borrow greatly increases the ability to invest and higher investment increases the standard of living and the rate of economic growth 3) interest rates: businesses borrow when they expect the return on their investment>cost of the loan; lower interest rates yield a greater quantity of lovable funds demanded for investment/other purposes
structural unemployment
persistent, long-term unemployment caused by long-lasting shocks or permanent features of an economy that make it more difficult for some workers to find jobs -ex is us shifting from manufacturing to service economy -persistent and long term means that a substantial fraction of unemployed have been that way for over a year -unemployment eventually causes economy to produce less and those unemployed suffer from having his/her skills atrophy and being regarded as lazy bc they have been out of the work force for so long
real prices
prices that have been corrected for inflation, they are used to compare the price of goods over time -sometimes technological progress is so rapid for a particular good or service that it overcomes the general tendency for prices to rise (ex. pocket calculators)
financial crisis of 2007-2008
problems: mortgage loans were sold as if they had very low risk, ppl kept getting them and expected housing prices to keep rising, they fell which led to people defaulting on their mortgages. this mainly caused leverage, securitization, and shadow banking
how inflation interacts with other taxes
produces tax burdens and tax liabilities that don't make economic sense -for example, people pay capital gain taxes when they shouldn't be which increases tax burden and decreases incentive to invest as a result, the longer run effect is to discourage savings in the first place because inflation increases the costs of complying with the tax system
the natural unemployment rate
rate of structural+frictional unemployment; it usually changes slowly over time compared to actual (cyclical) rate
Effect of real shocks on solow curve/AD
real shock- aka productivity shock, those that increase or decrease an economy's fundamental ability to produce goods/services which ultimately shift the solow curve to the left (negative shocks) or to the right (positive shocks) -negative shocks: drive inflation up and growth rate down (ex. bad weather, increased price of inputs, productivity slump, increased taxes or regulations, disruption of production by war/natural disasters) -Positive shocks- drive inflation down and growth rate up (good weather, decreased price of inputs, tech boom, decreased taxes/regulations, smooth production without disruption) -economy is constantly shifting due to real shocks and real shocks can also affect GDP/employment -unexpected shocks are hardest to deal with
financial intermediaries
reduce the cost of moving savings from savers to borrowers/investors; ex include banks, bond markets, and stock markets
reserve ratio and money multiplier
reserve ratio: the ratio of reserves to deposits determined primarily with how liquid banks wish to be (res./dep) --higher ratio means loans aren't profitable and banks are worried that depositors will withdrawal --lower ratio means loans are profitable and there isn't a worry that depositors demand money multiplier: the amount the money supply expands with each increase in reserves (=1/RR) -when banks have more reserves they can loan more which will increase deposits in other banks allowing those banks to loan more and so forth (multiplier effect) -the change in money supply= change in reserves * MM (MM is not fixed)