CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE Economic Instability SLIDE 1 2) From the Great Depression to the Early 1970s Demand-side economics— macroeconomic policy that focuses on shifting the aggregate demand curve as a way of promoting full employment and price stability World War II and aggregate demand The golden age of Keynesian economics

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 2 The Golden Age of Keynesian Economics (1960’s US)

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 3 One Problem with Keynes Either influence by the government could create a federal budget deficit A federal budget deficit measures the amount by which total federal spending exceeds total federal revenues.

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 4 3) The Great Stagflation: 1973–1980 During the 1960s, federal spending increased on both the war in Vietnam and social programs at home. This combined stimulus increased aggregate demand enough that in 1968, the inflation rate jumped 4.4% after averaging only 2.0% during the previous decade. Inflation in 1969  4.7% Inflation in 1970  5.3%

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 5 3) The Great Stagflation: 1973– crop failures & OPEC cuts its supply of oil (increases oil prices) This reduced aggregate supply in the economy Stagflation—A decline, or stagnation, of a nation’s output accompanied by a rise, or inflation in the price level Stagflation repeats in 1980

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 6 3) The Great Stagflation: 1973–1980 Real GDP declined by nearly $40 billion between Price level jumped almost 20% Unemployment climbed from: 4.9% in % in 1975 Keynesian demand-management solutions ineffective

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE Economic Instability SLIDE 7 Stagflation Between 1973 and 1975 Figure 13.7

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 8 4) Since the early 1980s Supply-Side Economics The key idea was that cutting tax rates would stimulate aggregate supply. Lower tax rates would stimulate economic growth Government would compensate in the long term (with a larger pie) for short term deficits

CONTEMPORARY ECONOMICS© Thomson South-Western 11.1 Estimating Gross Domestic Product SLIDE 9 Giant Federal Deficits Growth in federal spending exceeded the growth in federal tax revenues during this period