Chapter 8

Report
Chapter 8
Business Cycles
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Fig 8.1 A business cycle
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Business Cycle Facts
All business cycles have features in common.
But no two business cycles are identical.
Features in common:
The business cycle is recurrent, but not periodic.
The business cycle is persistent.
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Business Cycle Facts
• All business cycles have features in common
– Comovements among economic variables
(1) direction
– Procyclical: in the same direction
– Countercyclical: in the opposite direction
– Acyclical: with no clear pattern
(2) timing
– Leading: in advance
– Coincident: at the same time
– Lagging: after
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Summary 10
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Fig 8.6 Cyclical behavior of the index of industrial
production
Source: Federal Reserve Bank of St. Louis FRED database at research.stlouisfed.org/fred2/series/INDPRO.
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Fig 8.9 Cyclical behavior of the unemployment rate
Source: Federal Reserve Bank of St. Louis FRED database at research.stlouisfed.org/fred2/series/UNRATE.
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Business Cycle Facts
(3) volatility
• A plot of the standard deviation (Fig8.3) confirms the decline in
volatility.
• The reduction in output’s volatility remains unexplained.
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Fig 8.3 Standard deviation of GDP growth, 1960-2009
Source: Authors’ calculations from data on real GDP from the Federal Reserve Bank of St. Louis FRED database,
research.stlouisfed.org/fred2/GDPC1.
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Fig 8.10 The job finding rate, 1976–2009
Source: Shigeru Fujita and Garey Ramey, “The Cyclicality of Separation and Job Finding Rates,” International Economic Review, May 2009, pp. 415–
430; data updated by Shigeru Fujita.
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Fig 8.11 The job loss rate
Source: Shigeru Fujita and Garey Ramey, “The Cyclicality of Separation and Job Finding Rates,” International Economic
Review, May 2009, pp. 415–430; data updated by Shigeru Fujita.
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Flow in/ flow out
• the job finding rate: f
• the job loss rate: ℓ
 E t  fU t  E t
 U t  E t  fU t
U t  1  U t  E t  fU t
E t  1  E t  E t  fU t
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Table 8.2 Jobs Lost and Gained In an Expansion and a
Recession
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Business Cycle Facts
• Table 10.2
the job finding rate declines substantially more than
the job loss rate rises during recessions
• Since the job loss rate applies to many more people,
job loss is the main force in increased unemployment
rates during recessions
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Fig 8.12 Cyclical behavior of average labor productivity
and the real wage
Source: Federal Reserve Bank of St. Louis FRED database at research.stlouisfed.org/fred2 series OPHNFB (productivity) and COMPRNFB
(real wage).
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Fig 8.13 Cyclical behavior of nominal money
growth and inflation
Source: Federal Reserve Bank of St. Louis FRED database at research.stlouisfed.org/fred2 series M2SL and CPIAUCSL.
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Fig 8.14 Cyclical behavior of the nominal interest rate,
1947–2009
Source: Federal Reserve Bank of St. Louis FRED database at research.stlouisfed.org/fred2/series/TB3MS.
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International aspects of the business cycle
The cyclical behavior of key economic variables in other
countries is similar to that in the United States
– Major industrial countries frequently have recessions and
expansions at about the same time
– each economy faces small fluctuations that aren't shared
with other countries
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Business Cycle Analysis: A Preview
• What explains business cycle fluctuations?
– 2 major components of business cycle theories
• A description of the shocks
• A model of how the economy responds to shocks
– 2 major business cycle theories
• classical theory
• Keynesian theory
– Study both theories in aggregate demand-aggregate supply
(AD-AS) framework
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AD-AS model
• Aggregate demand and aggregate supply: a brief introduction
– The model (along with the building block IS-LM model)
will be developed in chapters 9-11
– The model has 3 main components:
all plotted in (P, Y) space
• aggregate demand curve (AD)
• short-run aggregate supply curve (SRAS)
• long-run aggregate supply curve (LRAS)
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Aggregate demand curve (AD)
• AD shows quantity of goods and services demanded (Yd)
for any price level (P)
• Higher P means less aggregate demand (lower Yd),
so the aggregate demand curve slopes downward;
reasons why discussed in chapter 9
• An increase in AD for a given P
shifts AD curve up and to the right
– eg: a rise in the stock market increases consumption,
shifting AD curve up and to the right
– eg: a decline in government purchases shifts AD
curve down and to the left
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Aggregate supply curve (AS)
• AS curve shows how much output producers are willing
to supply (Ys) at any given price level (P)
• The short-run aggregate supply curve (SRAS) is
horizontal; prices are fixed in the short run.
• The long-run aggregate supply curve (LRAS) is vertical
at the full-employment level of output
• Equilibrium
– SR equilibrium: AD curve intersects SRAS curve
– LR equilibrium: AD curve intersects LRAS curve
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Fig 8.16 The AD–AS model
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AD shocks
• An AD shock is a change that shifts AD curve
– eg: a negative AD shock (Fig. 8.17)
• The AD curve shifts down and to the left
• SR equilibrium occurs where AD curve intersects SRAS
curve
 output falls, price level is unchanged
• LR equilibrium occurs where AD curve intersects LRAS
curve
 output returns to its original level, price level has
fallen.
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Fig 8.17 An adverse aggregate demand shock
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AD shocks
• How long does it take to get to the long run?
• Classical theory: prices adjust rapidly
– So recessions are short-lived
– No need for government intervention
• Keynesian theory: prices (and wages) adjust slowly
– Adjustment may take several years
– So the government can fight recessions by taking
action to shift the AD curve
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AS shocks
• Classicals view AS shocks as the main cause of fluctuations in
output.
• An AS shock is a shift of the LRAS curve.
– eg, things like changes in productivity or labor supply.
– eg: a negative AS shock (Fig. 8.18)
• AS shock reduces full-employment output, causing
LRAS curve to shift left
• New equilibrium has lower output and higher price level
• So recession is accompanied by higher price level
– Keynesians also recognize the importance of supply shocks;
their views are discussed in Ch11.
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Fig 8.18 An adverse AS shock
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