Modern Principles: Macroeconomics See the Invisible Hand: Understand Your World Tyler Cowen and Alex Tabarrok

Real GDP growth rate Inflation Rate () Solow growth curve 3% SRAS 4% The Great Recession and the Great Fall in AD -1% -3%

Unemployment Rates and Underemployment Rates of Workers in the U.S. by Decile of the Household Income Distribution in the 4 th Quarter of 2009 (In %)

Monetary and Fiscal Policy with Real Shocks If employment is down because of aggregate demand, the problem can be addressed at zero cost through rate cuts and the ensuing rise in the money supply. Many central banks like to do that: to "lean against the wind". This time, though…some economists instinctively feel that the present downturn is the effect of structural shifts in the economy, not a shift in aggregate demand. They doubt that a central bank should retard effects it cannot prevent. If employment is down because of shifting structures, gearing the money supply to attempt to prop up employment would generate ever-rising inflation. Edmund Phelps, The Financial Times, July

New Solow growth curve Old Solow growth curve New SRAS Old SRAS a b c Real shock 16% 8% -3% -1% 3% Inflation rate (π) Real GDP growth rate AD (M + v = 15%) → → AD (M + v = 5%) → → M → The Negative Real Shock Dilemma

Modern Principles: Macroeconomics See the Invisible Hand: Understand Your World Tyler Cowen and Alex Tabarrok