Chapter 22 - Understanding business cycle fluctuations. In this chapter we will: Catalogue the various reasons that the dynamic aggregate demand curve and the aggregate supply curve shift; examine what happens during the transition as the economy moves to long-run equilibrium. use the model to understand how central bankers work to achieve their stabilization objectives. | Chapter Twenty-Two 22- Introduction While the economy can and does move away from long-run equilibrium, it has a natural self-correcting mechanism. It returns it to the point where resources are being used at their normal rates and Gaps between current and potential output disappear. 22- Introduction Why is it that output and inflation vary from quarter to quarter and year to year? What determines the extent of the fluctuations? Figure illustrates the long-run trends in the . inflation rate over the past 50 years. It also displays a series of shaded bars representing recessions. 22- Introduction While there is no apparent relationship between the level of inflation and these recessions, it does appear that the inflation rate: Falls when the economy is contracting. Rises when it is expanding. At least that is what happens most of the time. But in general there appears to be a connection between growth and changes in inflation. 22- Introduction . | Chapter Twenty-Two 22- Introduction While the economy can and does move away from long-run equilibrium, it has a natural self-correcting mechanism. It returns it to the point where resources are being used at their normal rates and Gaps between current and potential output disappear. 22- Introduction Why is it that output and inflation vary from quarter to quarter and year to year? What determines the extent of the fluctuations? Figure illustrates the long-run trends in the . inflation rate over the past 50 years. It also displays a series of shaded bars representing recessions. 22- Introduction While there is no apparent relationship between the level of inflation and these recessions, it does appear that the inflation rate: Falls when the economy is contracting. Rises when it is expanding. At least that is what happens most of the time. But in general there appears to be a connection between growth and changes in inflation. 22- Introduction 22- Introduction In recent years, the frequency of recessions has fallen. Recessions used to occur once every five years. Now they occur on average about every eight years. This reduction in the volatility of real growth has been called the “Great Moderation.” 22- Introduction In this chapter we will: Catalogue the various reasons that the dynamic aggregate demand curve and the aggregate supply curve shift. Examine what happens during the transition as the economy moves to long-run equilibrium. Use the model to understand how central bankers work to achieve their stabilization objectives. 22- Introduction We will also examine: How policymakers work to achieve their stabilization goals; The appropriate actions to take when potential output changes; and The difficulty central bankers have figuring out why output has fallen. 22- Sources of Fluctuations in Output and Inflation Remember that long-run equilibrium means: Y = YP output = potential output. = T inflation = .
