1. Expectations and Macroeconomics Chapter 16

2. 2 ©1999 South-Western College Publishing Figure 16.1 The Trade–Off Between Inflation and Unemployment 1949 - 1959 Unemployment rate (percent) 2 4 6 8 10 0 2468 0 Nominal wage inflation rate (percent) 5.8% 2.4%

3. 3 ©1999 South-Western College Publishing Figure 16.2 ’65’70’75’80’85’90’951950’60’55 Rate of money creation (left scale) Government budget deficit (right scale) Percentage per year 0 5 10 15 20 -5 Money Growth and Debt Creation in the Postwar Period -2 0 2 4 6 -4 Percentage of GDP 2% per year 0% of GDP

4. 4 ©1999 South-Western College Publishing Figure 16.3 - g   MM M   ww w = SRAS cuts LRAS at   ww w - g AD cuts LRAS at   MM M - g  Y/Y = g Inflation rate (  P/P) Growth rate of output (  Y/Y) LRAS SRAS AD Fixing the Position of the Aggregate Demand and Supply Curves

5. 5 ©1999 South-Western College Publishing Figure 16.4 SRAS AD 0 LRAS Inflation rate (  P/P) Growth rate of output (  Y/Y) Short Run Effects of an Increase in the Rate of Money Creation AD 1  Y/Y) 1  Y/Y) 0 = g  P/P) 1  P/P) 0

6. 6 ©1999 South-Western College Publishing Figure 16.5 Inflation rate (  P/P) Growth rate of output (  Y/Y) Short Run Effects of an Increase in the Rate of Money Creation AD 1  Y/Y) 1  Y/Y) 2 = g  P/P) 1  P/P) 2 A B SRAS 1 SRAS 2

7. 7 ©1999 South-Western College Publishing Figure 16.6  P/P) 3 A B C Growth rate of output (  Y/Y) Inflation rate (  P/P) Determining Inflation When Expected Inflation Is Too Low  P/P) 2  P/P) E =  P/P) 1 g SRAS AD 1 AD 2

8. 8 ©1999 South-Western College Publishing Figure 16.7 Determining Inflation When Expected Inflation Is Too High  P/P) 5 Growth rate of output (  Y/Y) Inflation rate (  P/P)  P/P) E =  P/P) 4 g SRAS  P/P) 6 AD 1 AD 2 F E D

9. 9 ©1999 South-Western College Publishing Figure 16.8 Growth rate of output (  Y/Y) g SRAS The Rational Expectation of Inflation AD 2 AD AD 1 I G H   PP P E   PP P 7 = - g   MM M =   MM M   PP P 9   PP P 8 Inflation rate (  P/P) The rational expectation of price inflation is equal to

10. 10 ©1999 South-Western College Publishing Figure 16.10A Removing Inflation from the Economy Panel A: Money Growth Rate Percentage per year 6 7 8 9 10 5 4 1977’78’79’80’81’82’83

11. 11 ©1999 South-Western College Publishing Figure 16.10B Removing Inflation from the Economy Panel B: Interest Rate Percentage per year 8 10 12 14 16 6 4 1977’78’79’80’81’82’83

12. 12 ©1999 South-Western College Publishing Figure 16.10C Removing Inflation from the Economy Panel C: GDP Growth Rate Percentage per year 0 2 4 6 -2 -4 1977’78’79’80’81’82’83

13. 13 ©1999 South-Western College Publishing Figure 16.10D Removing Inflation from the Economy Panel D: Inflation Rate Percentage per year 6 7 8 9 10 5 4 1977’78’79’80’81’82’83

14. END