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Some graphs to lecture 8, ch 19 and 20 in IAM.
RNy
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y AD With high b AD With low b Inflation
With high b, π need not fall so much in order to increase the real interest rate. AD With low b y
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y AD With low h AD With high h Inflation
With low h, an increase in π leads to only a small increase in the real interest rate. Therefore a small reduction in y AD With high h y
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The short-run equilibrium
Inflation SRAS Position in t=0 πo AD Position in t=0 yo y The short-run equilibrium
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The long-run equilibrium
Inflation LRAS Π* AD y- y The long-run equilibrium
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SRAS Position in t=0 Inflation πo Π* AD Position in t=0 y yo Y_ Dynamic adjustment from initial situation to long-run equilibirum (no shocks during the process)
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The response to a temporary demand shock
Inflation LRAS SRAS, t=2 SRAS, t=0, t=1. C B πo=π* A AD, t=1 AD, t=0, t=2, t=3………. Yo=y_ y The response to a temporary demand shock
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However, the real interst rate increased.
Inflation LRAS SRAS, t=2 SRAS, t=0, t=1 C B πo=π* A AD, t=1, AD, t=0, Yo=y_ y The response to a permanent temporary demand shock. Without the i-target, the new equilib would be at C. However, the real interst rate increased.
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Effects of negative demand shock. h>0 in both AD curves.
AD ( b >0) Inflation With b=0 there is no interest rate reduction initially. b > 0 reduces the effect on both output and inflation. Policy is countercyclical. A B B AD, b=0 y Effects of negative demand shock. h>0 in both AD curves.
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AD ( b >0) and h low Inflation B With b=0 there is no interest rate reduction initially. b > 0 reduces the effect on both output and inflation. Policy is countercyclical. B A AD, b=0 and h high y Effects of negative supply. A trade-off between inflation and y stabilization.
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