Chapter 17 – Stabilization in an integrated world economyWhat type of policy should be followed?Active(discretionary): All actions on the part of monetary and fiscal policymakers that are undertaken in _________ to or in anticipation of some _________ in the overall economyPeople in favor of active policy believe that there exists a __________ between ________ and __________ due to ______________.Passive(Non-discretionary) Policymaking that is carried out in response to a ______, not in response to an actual or potential _______ in overall economic activity. For example: Rate of growth of money = __________ + _______People in favor of Passive Policy believe that discretionary policies involve _______ and policy makers are __________ (ie they make ________ or are swayed by _______)Also they believe that there is _____ trade-off between unemployment and inflation.Review:In the long run, inflation and unemployment are ___________.The inflation rate is determined by the __________________, and the unemployment rate is determined by the ______ whichdepends on amount of ____________ and ________________ unemployment. However, in the short- run there is normally a ______. - Due to _________________ Uactual = _____ + _______.when Y___Yn U____UN uc___0 when Y___YN U____UN uc___0SRPC – Short- Run Phillips Curve – Shows the Short-run Trade-off between unemployment and inflation.1958 – A.V. Phillips showed that nominal wage growthwas ___________ correlated with unemployment.Assume we are currently at Z where P = 100 this year and GDP = ___.Scenario 1. (low growth) AD only increases to AD1 reflecting, for example, slow money growth – then outcome A will occur next year. In outcome A, P = 103 next year, so the inflation rate from this year to next equals___. Output (Y1) is relatively low, so unemployment is relatively high at ____. Scenario 2. (high growth) Instead, if aggregate demand increases to AD2– reflecting, for example, rapid money growth – then outcome B will occur next year. In outcome B, P = 105 next year, so the inflation rate from this year to next equals ___ Output (Y2) is higher, so unemployment is __________.. Shifts in AD cause a ________________ the SRPC.Does this mean that Policy makers can pick and choose?Suppose the Fed wanted to decrease unemployment from 6% (1963) (where inflation was _______) to 4%. Fed could undertake an ____________ monetary policy: ______ Bonds, MS ______, r______, C and I ______, AD _____ unemployment____ and inflation____.IN 1968 unemployment was ________ while inflation was _________.However,….LRPC would shift if anything changes ________________ such as ____________________________... This would cause the LRAS to shift __________________.An unexpected change in inflation (caused by an unexpected change in ______ or _________) causes RGP to __________ from YN due to _____________. In the Short- run Fed can cause Unemployment rate to fall below ____, by making inflation _________. In the long run, Expectations _______ to reality, wages _____ and u _________ to UN..Fed tries to lower U from 6% to 4%.Short-run Fed ____ MS, r ____, AD ___, price___, Y____, U____ (___________________________) economy is at __Long-run: Expectations ______ wages ______, Costs to firms ____, SRAS shifts _______, SRPC shifts _______. U = _____.* Misery Index =During the current crisis MI was about ____________. ... Negative Supply Shock: an event that directly affects ________ and thus Supply.Problems with Stagflation: Policy________________________The second time there was stagflation the Fed took a different approach -Overall the costs of moderate inflation are __________. However,..Is there really a relationship between inflation and unemployment?According to our text book author….In reality The SRPC exists but shifts as _______________ changes….Policy Irrelevance Proposition 1. The conclusion that policy actions have no ______ effects in the short run if the policy actions are ________ and none in the long run even if the policy actions are