1
00:00:18,039 --> 00:00:22,840
so after doing aslm in the first part of

2
00:00:20,839 --> 00:00:25,160
the course and where we took prices

3
00:00:22,839 --> 00:00:27,839
completely sticky and output was fully

4
00:00:25,160 --> 00:00:30,960
determined by aggregate demand uh we

5
00:00:27,839 --> 00:00:34,000
said well that minates in the very very

6
00:00:30,960 --> 00:00:35,840
short run but but over time at some

7
00:00:34,000 --> 00:00:37,719
point the supply side start showing up

8
00:00:35,840 --> 00:00:40,760
there are constraints the labor market

9
00:00:37,719 --> 00:00:44,120
gets very tight and so on and and so we

10
00:00:40,759 --> 00:00:46,558
added a block that started from wage

11
00:00:44,119 --> 00:00:48,519
determination and then we look at the

12
00:00:46,558 --> 00:00:51,238
impact of wages on

13
00:00:48,520 --> 00:00:53,520
prices and then we related inflation

14
00:00:51,238 --> 00:00:56,759
rate use that to relate inflation rate

15
00:00:53,520 --> 00:01:00,600
to economic activity so output above or

16
00:00:56,759 --> 00:01:02,920
below the potential output or or the

17
00:01:00,600 --> 00:01:05,159
natural level of output and things of

18
00:01:02,920 --> 00:01:08,359
that kind so remember the starting point

19
00:01:05,159 --> 00:01:11,439
was a um a wage

20
00:01:08,359 --> 00:01:13,759
demand equations so what what workers

21
00:01:11,438 --> 00:01:16,279
demand for a wage this period depends on

22
00:01:13,759 --> 00:01:18,118
how what's the price level they expect

23
00:01:16,280 --> 00:01:19,519
for the period because they set the wage

24
00:01:18,118 --> 00:01:22,519
today and they have to leave through the

25
00:01:19,519 --> 00:01:25,359
year or to whatever is the Contracting

26
00:01:22,519 --> 00:01:27,640
period H with that nominal wage so

27
00:01:25,359 --> 00:01:29,640
naturally if if they expect higher price

28
00:01:27,640 --> 00:01:32,319
level in the future they're going to

29
00:01:29,640 --> 00:01:34,280
demand the higher nominal wage today and

30
00:01:32,319 --> 00:01:35,879
then we said that's a funion that is

31
00:01:34,280 --> 00:01:39,439
also going to be decreasing in the level

32
00:01:35,879 --> 00:01:41,719
of unemployment because the obviously

33
00:01:39,438 --> 00:01:45,398
that weakens bargaining for power for

34
00:01:41,719 --> 00:01:49,319
workers or makes makes actually becoming

35
00:01:45,399 --> 00:01:50,840
unemployed or not having a job H more

36
00:01:49,319 --> 00:01:53,158
costly because it's very difficult to

37
00:01:50,840 --> 00:01:55,240
exit out of unemployment and then we

38
00:01:53,159 --> 00:01:56,799
made us an normalization this function

39
00:01:55,239 --> 00:01:59,199
also an increasing function on this

40
00:01:56,799 --> 00:02:02,320
variable Z which captures a bunch of

41
00:01:59,200 --> 00:02:03,960
Labor Market institutions including wage

42
00:02:02,319 --> 00:02:05,639
labor bargaining power so more

43
00:02:03,959 --> 00:02:07,919
bargaining power means that for any

44
00:02:05,640 --> 00:02:10,239
given level of unemployment workers

45
00:02:07,920 --> 00:02:13,318
would tend to demand a higher wage okay

46
00:02:10,239 --> 00:02:16,519
so that's what the Z variable was all

47
00:02:13,318 --> 00:02:18,878
about then we wanted to go from wages to

48
00:02:16,519 --> 00:02:22,000
prices H because the ultimate goal was

49
00:02:18,878 --> 00:02:24,560
to bring inflation into the picture and

50
00:02:22,000 --> 00:02:27,000
and for that we have to produce a we we

51
00:02:24,560 --> 00:02:30,640
introduce a production function H

52
00:02:27,000 --> 00:02:33,800
because uh in particular out we made

53
00:02:30,639 --> 00:02:36,000
output a function of employment and and

54
00:02:33,800 --> 00:02:37,719
that very naturally will connect wage

55
00:02:36,000 --> 00:02:40,400
pressure to price pressure because you

56
00:02:37,719 --> 00:02:42,439
know you need labor to produce output so

57
00:02:40,400 --> 00:02:43,680
the labor market is very tight that

58
00:02:42,439 --> 00:02:46,359
means also it's going to be more

59
00:02:43,680 --> 00:02:48,159
expensive to produce output and we

60
00:02:46,360 --> 00:02:51,599
simplifi this production function a lot

61
00:02:48,158 --> 00:02:54,799
we made it output equal to employment

62
00:02:51,598 --> 00:02:57,199
and that meant also that one unit of

63
00:02:54,800 --> 00:03:00,080
Labor in order to produce one extra unit

64
00:02:57,199 --> 00:03:03,000
of output you need one extra unit of

65
00:03:00,080 --> 00:03:07,120
label which means you need to pay a wage

66
00:03:03,000 --> 00:03:08,639
okay one one one unit of the wage and so

67
00:03:07,120 --> 00:03:10,599
then we said suppose that the price

68
00:03:08,639 --> 00:03:13,119
setting from the side of the firms

69
00:03:10,598 --> 00:03:14,919
simply takes this cost which is the wage

70
00:03:13,120 --> 00:03:16,878
and adds a markup to it to pay for a

71
00:03:14,919 --> 00:03:19,639
bunch of other things that we haven't

72
00:03:16,878 --> 00:03:21,479
introduced in this model okay so the

73
00:03:19,639 --> 00:03:23,399
price charged by firms is equal to the

74
00:03:21,479 --> 00:03:25,959
wage times one plus some positive

75
00:03:23,400 --> 00:03:28,680
numbers 8.2 or something like that so

76
00:03:25,959 --> 00:03:32,158
1.2 H and we can write rewrite this

77
00:03:28,680 --> 00:03:34,680
price setting equation as a wage the

78
00:03:32,158 --> 00:03:36,759
real wage the firms are willing to offer

79
00:03:34,680 --> 00:03:39,480
and it's just equal to that okay so when

80
00:03:36,759 --> 00:03:41,318
the markup goes up that means the real

81
00:03:39,479 --> 00:03:43,959
wage the firms are willing to offer is

82
00:03:41,318 --> 00:03:43,958
lower than

83
00:03:44,598 --> 00:03:48,119
otherwise okay that took us to the

84
00:03:46,919 --> 00:03:50,079
concept of the natural rate of

85
00:03:48,120 --> 00:03:52,319
unemployment and and and what the

86
00:03:50,080 --> 00:03:53,959
natural what I said no is there's

87
00:03:52,318 --> 00:03:56,759
nothing natural about the natural rate

88
00:03:53,959 --> 00:03:58,959
of unemployment it's simply a definition

89
00:03:56,759 --> 00:04:01,878
that says that's an employment that

90
00:03:58,959 --> 00:04:04,199
results when the price expected price is

91
00:04:01,878 --> 00:04:07,878
equal to the actual price that's that's

92
00:04:04,199 --> 00:04:09,639
what that's all that that is and if when

93
00:04:07,878 --> 00:04:13,639
when we have that condition then we can

94
00:04:09,639 --> 00:04:16,000
think of the real wage demanded by work

95
00:04:13,639 --> 00:04:17,719
because I can replace expected price for

96
00:04:16,000 --> 00:04:21,279
actual price and divide both sides by

97
00:04:17,720 --> 00:04:23,880
price so the actual wage demanded by

98
00:04:21,279 --> 00:04:26,719
workers is equal to a function of the

99
00:04:23,879 --> 00:04:28,319
natural rate of unemployment and I stick

100
00:04:26,720 --> 00:04:31,080
the end there precisely because I

101
00:04:28,319 --> 00:04:33,079
replace expected price or P for no other

102
00:04:31,079 --> 00:04:34,839
reason okay but now we have two

103
00:04:33,079 --> 00:04:37,918
equations for the real wage the real

104
00:04:34,839 --> 00:04:39,478
wage that firms are willing to pay and

105
00:04:37,918 --> 00:04:42,240
the real weight of workers need to

106
00:04:39,478 --> 00:04:44,199
demand and we can make them both equal

107
00:04:42,240 --> 00:04:47,478
and that determines the natural rate of

108
00:04:44,199 --> 00:04:48,840
unemployment okay so remember this from

109
00:04:47,478 --> 00:04:51,120
the point of view of the firm this is

110
00:04:48,839 --> 00:04:53,519
equal to one over one plus a marup the

111
00:04:51,120 --> 00:04:56,120
only endogenous variable the marup is a

112
00:04:53,519 --> 00:04:59,000
constant the Z is also a parameter is

113
00:04:56,120 --> 00:05:01,079
exogenous and so from the here we can

114
00:04:59,000 --> 00:05:03,439
solve the natural rate of unemployment 1

115
00:05:01,079 --> 00:05:05,319
over 1 plus M and we can solve the

116
00:05:03,439 --> 00:05:07,800
natural rate of unemployment and if you

117
00:05:05,319 --> 00:05:10,000
do the algebra right you you're going to

118
00:05:07,800 --> 00:05:12,639
get to a point like that that pins down

119
00:05:10,000 --> 00:05:14,240
natural rate of unemployment again there

120
00:05:12,639 --> 00:05:15,800
is nothing natural about the natural

121
00:05:14,240 --> 00:05:19,240
rate of unemployment it depends on a

122
00:05:15,800 --> 00:05:21,918
bunch of parameters okay which for

123
00:05:19,240 --> 00:05:23,478
example it clearly depends on the markup

124
00:05:21,918 --> 00:05:26,519
it depends on things that we took as

125
00:05:23,478 --> 00:05:28,839
constant here as given here all the

126
00:05:26,519 --> 00:05:31,399
things that wear in Z those are part of

127
00:05:28,839 --> 00:05:33,599
that and so we then we look at things

128
00:05:31,399 --> 00:05:35,359
that change and that's just done with

129
00:05:33,600 --> 00:05:37,560
equations we look at things that change

130
00:05:35,360 --> 00:05:40,000
the natural rate of unemployment that's

131
00:05:37,560 --> 00:05:41,600
one example if bargaining Power by

132
00:05:40,000 --> 00:05:43,478
workers goes up they're going to demand

133
00:05:41,600 --> 00:05:46,039
a higher wage at the initial natural

134
00:05:43,478 --> 00:05:47,758
rate of unemployment well that obviously

135
00:05:46,038 --> 00:05:49,959
that higher wage is inconsistent with

136
00:05:47,759 --> 00:05:52,080
what firms are willing to pay the only

137
00:05:49,959 --> 00:05:54,318
way equilibrium can be restor in this

138
00:05:52,079 --> 00:05:56,120
model that's the medium run equilibrium

139
00:05:54,319 --> 00:06:00,199
is for the natural rate of unemployment

140
00:05:56,120 --> 00:06:02,560
to rise to un Prime okay

141
00:06:00,199 --> 00:06:04,120
so there you have it nothing natural the

142
00:06:02,560 --> 00:06:05,959
natural rate of employ is not constant

143
00:06:04,120 --> 00:06:09,478
it depends on institutional parameters

144
00:06:05,959 --> 00:06:12,359
such as bargaining power another example

145
00:06:09,478 --> 00:06:13,918
is markups it depends on markups as well

146
00:06:12,360 --> 00:06:17,439
the degree of competition if you will in

147
00:06:13,918 --> 00:06:18,799
the Goods Market if if we are in some

148
00:06:17,439 --> 00:06:21,199
equilibrium like this one and now

149
00:06:18,800 --> 00:06:24,199
suddenly firms for whatever

150
00:06:21,199 --> 00:06:28,800
reason choose or need to charge a higher

151
00:06:24,199 --> 00:06:31,080
markup that h means that that at this

152
00:06:28,800 --> 00:06:32,680
level of unemploy the wage that workers

153
00:06:31,079 --> 00:06:34,560
would demand is higher than the wage

154
00:06:32,680 --> 00:06:36,400
that firms are willing to pay the real

155
00:06:34,560 --> 00:06:38,800
wage and the only thing that can clear

156
00:06:36,399 --> 00:06:40,598
the market in this case here in the

157
00:06:38,800 --> 00:06:43,120
medium run is for the natural rate of

158
00:06:40,598 --> 00:06:46,038
unemployment to rise okay so here we got

159
00:06:43,120 --> 00:06:47,759
two experiments where we move some

160
00:06:46,038 --> 00:06:50,639
parameter one the bargaining power of

161
00:06:47,759 --> 00:06:53,199
workers and the other one the the markup

162
00:06:50,639 --> 00:06:56,598
of the firms and both increase the

163
00:06:53,199 --> 00:07:00,319
natural rate of unemployment

164
00:06:56,598 --> 00:07:01,918
good The Next Step was

165
00:07:00,319 --> 00:07:03,400
to look at things that happen outside

166
00:07:01,918 --> 00:07:06,439
the natural rate of unemployment and

167
00:07:03,399 --> 00:07:09,318
particular what happens to prices there

168
00:07:06,439 --> 00:07:11,839
okay we look so what we did is we took

169
00:07:09,319 --> 00:07:15,240
the we went back to the

170
00:07:11,839 --> 00:07:16,758
model with the expected price here that

171
00:07:15,240 --> 00:07:18,598
means an employment that comes out from

172
00:07:16,759 --> 00:07:20,160
this equilibrium is not is not going to

173
00:07:18,598 --> 00:07:22,478
be necessarily the natural rate of an

174
00:07:20,160 --> 00:07:25,879
employment that will be the case only if

175
00:07:22,478 --> 00:07:27,758
P happens to be equal to p h then we

176
00:07:25,879 --> 00:07:30,120
simplify this function f here for

177
00:07:27,759 --> 00:07:32,598
something linear like this very simple

178
00:07:30,120 --> 00:07:34,560
but again decreasing in unemployment

179
00:07:32,598 --> 00:07:35,680
increasing in this institutional

180
00:07:34,560 --> 00:07:40,280
parameters

181
00:07:35,680 --> 00:07:43,478
z h we replace this wage here from this

182
00:07:40,279 --> 00:07:44,719
expression here and rearrange so we got

183
00:07:43,478 --> 00:07:47,598
this

184
00:07:44,720 --> 00:07:50,039
here okay and the next step was just to

185
00:07:47,598 --> 00:07:52,478
go from here to rate of inflation and we

186
00:07:50,038 --> 00:07:55,800
did it through a SE several steps and

187
00:07:52,478 --> 00:07:58,399
approximations and we ended up with what

188
00:07:55,800 --> 00:08:00,360
is known as the Philips curve okay so

189
00:07:58,399 --> 00:08:02,679
this say inflation is increasing an

190
00:08:00,360 --> 00:08:05,280
expected inflation on these

191
00:08:02,680 --> 00:08:07,840
institutional parameters if the markups

192
00:08:05,279 --> 00:08:11,559
go up that will tend to

193
00:08:07,839 --> 00:08:14,158
increase inflation H if bargaining Power

194
00:08:11,560 --> 00:08:16,319
by workers go up then that's the same

195
00:08:14,158 --> 00:08:18,360
but most importantly is negatively

196
00:08:16,319 --> 00:08:21,199
related to unemployment and that's the

197
00:08:18,360 --> 00:08:23,000
reason that today nowadays you know

198
00:08:21,199 --> 00:08:25,598
there's lots of discussion about the

199
00:08:23,000 --> 00:08:27,240
tightness in the labor market and and

200
00:08:25,598 --> 00:08:28,878
whether that's really necessary do we

201
00:08:27,240 --> 00:08:30,918
need to cause a recession a situation

202
00:08:28,879 --> 00:08:32,680
where an employment goes up a lot in

203
00:08:30,918 --> 00:08:35,319
order to really finally bring down

204
00:08:32,679 --> 00:08:37,079
inflation yeah that's was

205
00:08:35,320 --> 00:08:39,760
question is

206
00:08:37,080 --> 00:08:41,759
alha oh remember that I made up this

207
00:08:39,759 --> 00:08:43,000
function we said this function is

208
00:08:41,759 --> 00:08:46,120
decreasing

209
00:08:43,000 --> 00:08:50,240
unemployment I just

210
00:08:46,120 --> 00:08:54,560
uh replace that function for that

211
00:08:50,240 --> 00:08:57,320
okay so it's a sensitivity of wage

212
00:08:54,559 --> 00:09:00,239
Demand by workers to their employment

213
00:08:57,320 --> 00:09:02,120
rate Alpha that is very high means that

214
00:09:00,240 --> 00:09:05,839
wage demand is very sensitive very

215
00:09:02,120 --> 00:09:07,600
responsive to unemployment y intuition

216
00:09:05,839 --> 00:09:08,800
for like an expected price like could

217
00:09:07,600 --> 00:09:10,440
you connect that back to like I don't

218
00:09:08,799 --> 00:09:12,559
know some sort of like a commodity or

219
00:09:10,440 --> 00:09:15,680
something or so what is the intuition

220
00:09:12,559 --> 00:09:18,039
for for this yeah like just like a price

221
00:09:15,679 --> 00:09:21,639
feels tactile but like an expected price

222
00:09:18,039 --> 00:09:24,039
I don't well I mean imagine that workers

223
00:09:21,639 --> 00:09:26,799
and firms bargain for a wage that will

224
00:09:24,039 --> 00:09:28,599
live through the year you're buying by

225
00:09:26,799 --> 00:09:30,519
you're bargaining for the wage nominal

226
00:09:28,600 --> 00:09:34,360
wage today you don't set a real wage you

227
00:09:30,519 --> 00:09:36,519
set the nominal wage say $100 whatever

228
00:09:34,360 --> 00:09:38,480
well the wage demand will depend a lot

229
00:09:36,519 --> 00:09:41,159
on on what I expect inflation to be

230
00:09:38,480 --> 00:09:43,480
during this period if I expect inflation

231
00:09:41,159 --> 00:09:44,919
to be 10% you're very likely to demand a

232
00:09:43,480 --> 00:09:46,879
higher nominal wage because you have to

233
00:09:44,919 --> 00:09:48,360
leave an average with higher prices so

234
00:09:46,879 --> 00:09:51,078
that's that's the role of that is the

235
00:09:48,360 --> 00:09:53,680
price I mean I I would prefer and there

236
00:09:51,078 --> 00:09:55,639
are countries where that's done to set

237
00:09:53,679 --> 00:09:57,759
my wage in real terms so I don't need to

238
00:09:55,639 --> 00:09:59,480
worry about that but in practice you in

239
00:09:57,759 --> 00:10:01,278
economies with low inflation like the US

240
00:09:59,480 --> 00:10:03,639
you don't do that you you get a nominal

241
00:10:01,278 --> 00:10:05,799
wage and you have to leave for a year or

242
00:10:03,639 --> 00:10:10,720
until the next negotiation for your wage

243
00:10:05,799 --> 00:10:10,719
contract with that level of of wages

244
00:10:10,919 --> 00:10:17,319
okay with the interest rate or with the

245
00:10:14,039 --> 00:10:19,240
the inflation rate whereas the I guess

246
00:10:17,320 --> 00:10:21,519
the regular price is defined by the wage

247
00:10:19,240 --> 00:10:23,839
is depend on the market no no they're

248
00:10:21,519 --> 00:10:24,839
both the same but one is the only thing

249
00:10:23,839 --> 00:10:28,320
is

250
00:10:24,839 --> 00:10:29,800
that this price here is not sort of the

251
00:10:28,320 --> 00:10:32,040
current is what you really expect the

252
00:10:29,799 --> 00:10:33,759
price to be during the year is that is

253
00:10:32,039 --> 00:10:36,199
this is here just because at the moment

254
00:10:33,759 --> 00:10:37,879
in which you set the wage you don't know

255
00:10:36,200 --> 00:10:41,040
the price you're going to face as a as a

256
00:10:37,879 --> 00:10:42,120
worker but it's it's the price so you

257
00:10:41,039 --> 00:10:44,519
don't know the price that you're going

258
00:10:42,120 --> 00:10:46,720
to actually face so the only the best

259
00:10:44,519 --> 00:10:49,360
you can do is calculate well I think

260
00:10:46,720 --> 00:10:50,959
inflation is going to be 10% so give me

261
00:10:49,360 --> 00:10:53,519
know what I would have had in mind with

262
00:10:50,958 --> 00:10:55,039
inflation equal to zero plus 5% so on

263
00:10:53,519 --> 00:10:56,078
average I'm about right that's sort of

264
00:10:55,039 --> 00:10:58,679
the

265
00:10:56,078 --> 00:11:01,000
logic but this expected price is meant

266
00:10:58,679 --> 00:11:02,319
to be your best proxy you have at the

267
00:11:01,000 --> 00:11:04,519
moment in which you're bargaining for

268
00:11:02,320 --> 00:11:07,560
your wage for what the actual price will

269
00:11:04,519 --> 00:11:10,399
be during the life of that particular

270
00:11:07,559 --> 00:11:10,399
wage

271
00:11:10,958 --> 00:11:13,958
okay

272
00:11:15,759 --> 00:11:22,399
um okay so we end up with that that that

273
00:11:19,240 --> 00:11:24,519
uh Philips curve here importantly this

274
00:11:22,399 --> 00:11:27,399
an decreasing function of

275
00:11:24,519 --> 00:11:29,879
unemployment er um and then we' made

276
00:11:27,399 --> 00:11:31,679
different assumptions about expectations

277
00:11:29,879 --> 00:11:33,360
if expected inflation for example is a

278
00:11:31,679 --> 00:11:36,479
constant that's when we say expected

279
00:11:33,360 --> 00:11:38,680
infl inflation is very well anchored

280
00:11:36,480 --> 00:11:41,159
then you get a Philips curve that looks

281
00:11:38,679 --> 00:11:42,919
like this in which inflation it has a

282
00:11:41,159 --> 00:11:45,120
constant here and it's decreasing on the

283
00:11:42,919 --> 00:11:47,719
rate of unemployment and and during the

284
00:11:45,120 --> 00:11:50,278
60s H that that relationship sort of

285
00:11:47,720 --> 00:11:52,399
held fairly well it was a downward slope

286
00:11:50,278 --> 00:11:54,639
in relationship it got to be steeper and

287
00:11:52,399 --> 00:11:56,360
steeper as we moved into higher and

288
00:11:54,639 --> 00:11:58,440
higher inflation levels and then I said

289
00:11:56,360 --> 00:12:01,240
but in the 70s the whole thing broke

290
00:11:58,440 --> 00:12:03,680
loose you nothing like a downward

291
00:12:01,240 --> 00:12:05,240
sloping curve here that happened for two

292
00:12:03,679 --> 00:12:06,759
reasons there were some cause push

293
00:12:05,240 --> 00:12:10,440
shocks you can think of lots of shocks

294
00:12:06,759 --> 00:12:12,639
to M but more interesting H expected

295
00:12:10,440 --> 00:12:15,399
inflation became an anchor and then we

296
00:12:12,639 --> 00:12:17,198
changed then H the expected inflation

297
00:12:15,399 --> 00:12:18,879
mod for rather than being a constant

298
00:12:17,198 --> 00:12:22,399
being the some weighted average like

299
00:12:18,879 --> 00:12:24,919
this and we said look during the

300
00:12:22,399 --> 00:12:28,278
70s essentially that that Theta was

301
00:12:24,919 --> 00:12:30,120
equal to one okay so inflation expected

302
00:12:28,278 --> 00:12:32,000
inflation was really whatever was

303
00:12:30,120 --> 00:12:34,519
inflation last year people expected that

304
00:12:32,000 --> 00:12:36,000
level of inflation to stay the next year

305
00:12:34,519 --> 00:12:38,959
rather than going back to that whatever

306
00:12:36,000 --> 00:12:42,000
was the constant or inflation Target or

307
00:12:38,958 --> 00:12:43,958
historical constant pi and and that

308
00:12:42,000 --> 00:12:45,360
meant that the the during that period

309
00:12:43,958 --> 00:12:47,919
really the Philips curve looked more

310
00:12:45,360 --> 00:12:50,199
like a relationship of the change in the

311
00:12:47,919 --> 00:12:52,519
inflation rate as a decrease in function

312
00:12:50,198 --> 00:12:54,039
of unemployment so that means that when

313
00:12:52,519 --> 00:12:56,240
you increase an employment here you

314
00:12:54,039 --> 00:12:58,958
reduce a rate at which unemployment is

315
00:12:56,240 --> 00:12:59,839
inflation is rising okay that's the goal

316
00:12:58,958 --> 00:13:02,559
of

317
00:12:59,839 --> 00:13:06,000
the situation in in a case in

318
00:13:02,559 --> 00:13:08,198
which expected inflation is an an anchor

319
00:13:06,000 --> 00:13:10,399
and the last step we had there is we

320
00:13:08,198 --> 00:13:12,120
replace we notice we said well what

321
00:13:10,399 --> 00:13:14,600
happens if we stick in here the natural

322
00:13:12,120 --> 00:13:16,600
rate of unemployment then that will give

323
00:13:14,600 --> 00:13:18,278
us that will happen only when expected

324
00:13:16,600 --> 00:13:20,240
price is equal to actual prices so that

325
00:13:18,278 --> 00:13:22,399
means that when inflation is equal to

326
00:13:20,240 --> 00:13:24,079
expected inflation from here we can

327
00:13:22,399 --> 00:13:26,240
solve the natural rate of unemployment

328
00:13:24,078 --> 00:13:28,679
as a function of these structural

329
00:13:26,240 --> 00:13:30,959
parameters and once we have that we

330
00:13:28,679 --> 00:13:34,159
could go back to our Philips curve and

331
00:13:30,958 --> 00:13:36,078
rewrite it in this way okay so you can

332
00:13:34,159 --> 00:13:37,480
think of the Philips curve in this way

333
00:13:36,078 --> 00:13:39,879
and this is the the the way you

334
00:13:37,480 --> 00:13:43,159
typically we typically write it down in

335
00:13:39,879 --> 00:13:45,519
which it says H inflation is decreasing

336
00:13:43,159 --> 00:13:47,958
in the unemployment

337
00:13:45,519 --> 00:13:50,600
Gap

338
00:13:47,958 --> 00:13:52,159
so so if the unemployment is above the

339
00:13:50,600 --> 00:13:54,079
natural rate of unemployment that means

340
00:13:52,159 --> 00:13:56,559
inflation will tend to be below expected

341
00:13:54,078 --> 00:13:59,719
inflation if expected inflation happen

342
00:13:56,559 --> 00:14:01,239
to be equal to lag inflation that means

343
00:13:59,720 --> 00:14:02,839
if an employment is above the natural

344
00:14:01,240 --> 00:14:05,879
rate of unemployment then inflation will

345
00:14:02,839 --> 00:14:08,480
be falling

346
00:14:05,879 --> 00:14:11,320
okay any questions good you need to know

347
00:14:08,480 --> 00:14:11,320
this

348
00:14:11,440 --> 00:14:16,040
okay how to derive these things I mean

349
00:14:14,159 --> 00:14:18,198
not so much yeah you should know how to

350
00:14:16,039 --> 00:14:19,519
WR but you need to understand this

351
00:14:18,198 --> 00:14:22,519
relationship between the out the

352
00:14:19,519 --> 00:14:22,519
unemployment Gap and

353
00:14:23,360 --> 00:14:29,159
inflation relative to spected

354
00:14:26,120 --> 00:14:33,039
inflation yep

355
00:14:29,159 --> 00:14:35,919
unor versus de unored inflation expected

356
00:14:33,039 --> 00:14:40,838
inflation it's just a statement

357
00:14:35,919 --> 00:14:42,559
about ER what is the model we have H for

358
00:14:40,839 --> 00:14:44,360
expected

359
00:14:42,559 --> 00:14:47,518
inflation

360
00:14:44,360 --> 00:14:51,000
so suppose we have the following model

361
00:14:47,519 --> 00:14:53,519
for expected inflation one minus Theta

362
00:14:51,000 --> 00:14:56,198
Theta some number between Z and one

363
00:14:53,519 --> 00:14:58,480
times a constant

364
00:14:56,198 --> 00:15:01,240
inflation plus something that is a

365
00:14:58,480 --> 00:15:02,480
function of plus Thea times whatever is

366
00:15:01,240 --> 00:15:04,879
previous

367
00:15:02,480 --> 00:15:06,600
inflation central banks try to set a

368
00:15:04,879 --> 00:15:10,120
target for the inflation rate in the US

369
00:15:06,600 --> 00:15:12,480
is around 2% and ideally people will

370
00:15:10,120 --> 00:15:16,799
tend to believe they may see an tempor

371
00:15:12,480 --> 00:15:19,560
inflation that that is above say 2% but

372
00:15:16,799 --> 00:15:22,240
as long as as as people expect that to

373
00:15:19,559 --> 00:15:24,638
be undone in the in the in the next

374
00:15:22,240 --> 00:15:26,839
period then inflations we say they're

375
00:15:24,639 --> 00:15:28,639
very well anchored so that's a case in

376
00:15:26,839 --> 00:15:30,959
which very well anchored means th equal

377
00:15:28,639 --> 00:15:33,680
to Z here and you always sticking there

378
00:15:30,958 --> 00:15:35,919
in the case of the US at 2% and and

379
00:15:33,679 --> 00:15:37,519
there's a lot of there's a lot of that's

380
00:15:35,919 --> 00:15:39,719
the way the econom is behaving right now

381
00:15:37,519 --> 00:15:41,600
inflation today is 5% but if you ask

382
00:15:39,720 --> 00:15:43,920
people what do you expect inflation to

383
00:15:41,600 --> 00:15:45,720
be two and two years from now people

384
00:15:43,919 --> 00:15:49,120
tell you me look around 2% two and a

385
00:15:45,720 --> 00:15:51,040
half percent or so unanchor expectation

386
00:15:49,120 --> 00:15:53,318
is when when you don't have that anchor

387
00:15:51,039 --> 00:15:54,799
that 2% that the FED told you is

388
00:15:53,318 --> 00:15:56,240
whatever was the previous inflation

389
00:15:54,799 --> 00:15:58,198
that's what people extrapolate will be

390
00:15:56,240 --> 00:15:59,519
inflation for Next Period and that's a

391
00:15:58,198 --> 00:16:01,278
lot harder when you get into an

392
00:15:59,519 --> 00:16:03,519
inflationary episode in that context is

393
00:16:01,278 --> 00:16:05,480
very difficult because you at 5% people

394
00:16:03,519 --> 00:16:08,039
are still expecting 5% for next year so

395
00:16:05,480 --> 00:16:09,800
you need to is much harder to bring

396
00:16:08,039 --> 00:16:11,360
inflation down you need to create much

397
00:16:09,799 --> 00:16:14,479
more unemployment to bring inflation

398
00:16:11,360 --> 00:16:17,039
back to the 2% 2% Target okay that's

399
00:16:14,480 --> 00:16:19,159
that's what it means to an so anchor

400
00:16:17,039 --> 00:16:21,958
means Theta very close to zero an anchor

401
00:16:19,159 --> 00:16:25,399
Theta very close to one that's a a

402
00:16:21,958 --> 00:16:25,399
formal definition

403
00:16:31,559 --> 00:16:35,518
we then move

404
00:16:32,409 --> 00:16:37,919
[Music]

405
00:16:35,519 --> 00:16:39,278
to what I think is probably the most

406
00:16:37,919 --> 00:16:41,919
important model you'll see in this

407
00:16:39,278 --> 00:16:45,000
course which is the islm PC which is

408
00:16:41,919 --> 00:16:46,919
just the islm plus the Philips curve and

409
00:16:45,000 --> 00:16:49,240
that allow us to talk about the short

410
00:16:46,919 --> 00:16:52,519
run which is what we did in the slm and

411
00:16:49,240 --> 00:16:54,440
then all the way to the medium Run Okay

412
00:16:52,519 --> 00:16:56,560
in medium understood as when you go back

413
00:16:54,440 --> 00:17:00,399
to the Natural rate of unemployment

414
00:16:56,559 --> 00:17:04,679
natural level of output and so on

415
00:17:00,399 --> 00:17:04,680
oh we got a banking crisis there but

416
00:17:05,880 --> 00:17:11,839
that's

417
00:17:08,279 --> 00:17:14,359
oh this you may find useful here here I

418
00:17:11,838 --> 00:17:17,240
was trying to explain the banking crisis

419
00:17:14,359 --> 00:17:19,000
and and so and I said we have a model

420
00:17:17,240 --> 00:17:20,679
for that already remember we had this x

421
00:17:19,000 --> 00:17:22,959
this spreads in the investment function

422
00:17:20,679 --> 00:17:25,240
I said well you can think of a negative

423
00:17:22,959 --> 00:17:27,558
Financial shock something like a a

424
00:17:25,240 --> 00:17:32,558
credit spread shock as an increasing X

425
00:17:27,558 --> 00:17:34,160
and that will shift to left okay just

426
00:17:32,558 --> 00:17:36,599
saying

427
00:17:34,160 --> 00:17:39,960
good

428
00:17:36,599 --> 00:17:42,480
uh islm PC model was just going back to

429
00:17:39,960 --> 00:17:44,960
the islm model we're going to simplify

430
00:17:42,480 --> 00:17:47,038
things by not by just assuming that the

431
00:17:44,960 --> 00:17:50,440
Central Bank sets the real interest rate

432
00:17:47,038 --> 00:17:54,240
and the real interest rate is that okay

433
00:17:50,440 --> 00:17:56,558
ER and uh and to that we added a Philips

434
00:17:54,240 --> 00:17:57,839
curve but we didn't like that Philips

435
00:17:56,558 --> 00:17:59,599
curve because you know we have

436
00:17:57,839 --> 00:18:02,038
everything is a function of output here

437
00:17:59,599 --> 00:18:05,439
and interest rate and now we have

438
00:18:02,038 --> 00:18:07,640
inflation and then employment rate so

439
00:18:05,440 --> 00:18:10,720
yet another variable to carry around so

440
00:18:07,640 --> 00:18:13,720
we went from H the output Gap to an

441
00:18:10,720 --> 00:18:16,440
employment R an employment gap to an

442
00:18:13,720 --> 00:18:18,720
output Gap and and we did that just by

443
00:18:16,440 --> 00:18:21,480
noticing that output is equal to the

444
00:18:18,720 --> 00:18:25,200
labor force time one minus unemployment

445
00:18:21,480 --> 00:18:27,558
rate equivalently similar you can Define

446
00:18:25,200 --> 00:18:30,200
potential output or the natural output

447
00:18:27,558 --> 00:18:32,359
level as employment Time 1 minus the

448
00:18:30,200 --> 00:18:36,200
natural rate of unemployment subtract

449
00:18:32,359 --> 00:18:40,079
these two no and I you get that the

450
00:18:36,200 --> 00:18:42,679
output Gap is equal to minus L times the

451
00:18:40,079 --> 00:18:45,000
unemployment Gap and so we replace this

452
00:18:42,679 --> 00:18:46,640
for that expression divided by L and we

453
00:18:45,000 --> 00:18:49,480
end up with a Philips curve written in

454
00:18:46,640 --> 00:18:51,840
the form of an increasing function of

455
00:18:49,480 --> 00:18:54,000
the output Gap so when the output Gap is

456
00:18:51,839 --> 00:18:56,639
positive then inflation will exceed

457
00:18:54,000 --> 00:18:58,919
expected inflation if expected inflation

458
00:18:56,640 --> 00:19:00,919
is an anchor that is expected inflation

459
00:18:58,919 --> 00:19:03,080
is equal to lag inflation then that

460
00:19:00,919 --> 00:19:07,759
means that a positive output Gap leads

461
00:19:03,079 --> 00:19:11,359
to an increase in inflation inflation R

462
00:19:07,759 --> 00:19:13,359
okay so we look at an example here H you

463
00:19:11,359 --> 00:19:14,558
know this is the type of but now we're

464
00:19:13,359 --> 00:19:16,279
going to have the real interest rate

465
00:19:14,558 --> 00:19:17,879
here just makes it simpler to think

466
00:19:16,279 --> 00:19:19,359
about Central monetary policy in terms

467
00:19:17,880 --> 00:19:22,000
of the real interest rate otherwise too

468
00:19:19,359 --> 00:19:23,959
many things move at once so this is what

469
00:19:22,000 --> 00:19:26,440
we had done for quiz one here you have

470
00:19:23,960 --> 00:19:29,960
some particular equilibrium the islm

471
00:19:26,440 --> 00:19:33,080
with this real interest rate we

472
00:19:29,960 --> 00:19:35,400
got some equilibrium output equal to Y

473
00:19:33,079 --> 00:19:38,000
the new part the contribution of this

474
00:19:35,400 --> 00:19:40,320
block of the course is that now we need

475
00:19:38,000 --> 00:19:42,839
to also check whether this Y is is

476
00:19:40,319 --> 00:19:45,119
consistent with potential output or not

477
00:19:42,839 --> 00:19:47,798
with natural level of output and that

478
00:19:45,119 --> 00:19:51,639
for that we need to uh see whether this

479
00:19:47,798 --> 00:19:53,038
level of output H is consider again is

480
00:19:51,640 --> 00:19:54,440
above or below the natural rate of

481
00:19:53,038 --> 00:19:57,359
output and for that we need to look at

482
00:19:54,440 --> 00:20:00,400
the Philips curve okay okay and in this

483
00:19:57,359 --> 00:20:02,158
particular case that's not the the case

484
00:20:00,400 --> 00:20:04,880
because output is above the natural rate

485
00:20:02,159 --> 00:20:08,200
of output you put now given that

486
00:20:04,880 --> 00:20:10,039
observation you you put right draw here

487
00:20:08,200 --> 00:20:11,880
the the Philips curve you know that

488
00:20:10,038 --> 00:20:14,000
because output is above the natural rate

489
00:20:11,880 --> 00:20:15,919
of output the natural level of output

490
00:20:14,000 --> 00:20:18,319
that means inflation is above expected

491
00:20:15,919 --> 00:20:20,400
inflation if expected inflation happens

492
00:20:18,319 --> 00:20:23,839
to be an anchor equal to Pi minus one

493
00:20:20,400 --> 00:20:27,480
that means that at this output Gap that

494
00:20:23,839 --> 00:20:30,158
there's an inflation that is rising okay

495
00:20:27,480 --> 00:20:32,279
H now inflation Rising means the central

496
00:20:30,159 --> 00:20:33,919
bank will have to react and the way we

497
00:20:32,279 --> 00:20:37,240
so you'll have to do something up here

498
00:20:33,919 --> 00:20:39,559
you need to bring output down and how

499
00:20:37,240 --> 00:20:42,599
can you bring output

500
00:20:39,558 --> 00:20:44,678
down so so this economy is is engaging

501
00:20:42,599 --> 00:20:49,399
in an inflationary spiral actually given

502
00:20:44,679 --> 00:20:49,400
this mod of expectation how do you stop

503
00:20:55,640 --> 00:21:00,120
that if you are the fed and you you

504
00:20:58,839 --> 00:21:02,158
raise the interest rate no because you

505
00:21:00,119 --> 00:21:03,879
need to bring the L back so the

506
00:21:02,159 --> 00:21:07,120
equilibrium level of output you need

507
00:21:03,880 --> 00:21:09,960
increase the real rate up to a point in

508
00:21:07,119 --> 00:21:12,959
which um the level equilibrium level of

509
00:21:09,960 --> 00:21:15,600
output is equal to the Natural rate of

510
00:21:12,960 --> 00:21:17,200
output um and you may have to do more

511
00:21:15,599 --> 00:21:19,119
than that if inflation was an anchor and

512
00:21:17,200 --> 00:21:21,120
you find yourself with 5% inflation you

513
00:21:19,119 --> 00:21:23,519
may have to temporarily actually to

514
00:21:21,119 --> 00:21:25,239
bring inflation back down to 2% you may

515
00:21:23,519 --> 00:21:27,639
have to overshoot raise interest rate a

516
00:21:25,240 --> 00:21:30,720
lot generate a negative output gap for a

517
00:21:27,640 --> 00:21:33,240
while and then once you reach the level

518
00:21:30,720 --> 00:21:35,839
of inflation you like the 2% then you

519
00:21:33,240 --> 00:21:39,079
can go back uh to the Natural level of

520
00:21:35,839 --> 00:21:40,720
output okay so that's the reason central

521
00:21:39,079 --> 00:21:42,359
banks worry a lot about unanchor

522
00:21:40,720 --> 00:21:43,798
expectations because then they know that

523
00:21:42,359 --> 00:21:46,119
they find themselves an inflation above

524
00:21:43,798 --> 00:21:48,038
their target is not going to be enough

525
00:21:46,119 --> 00:21:49,678
to bring the output Gap to zero they're

526
00:21:48,038 --> 00:21:52,480
going to have to overshoot in the way

527
00:21:49,679 --> 00:21:54,038
down in order to re re-anchor expect

528
00:21:52,480 --> 00:21:56,159
well in order to bring inflation back

529
00:21:54,038 --> 00:21:58,798
down to the Target of

530
00:21:56,159 --> 00:22:01,840
2% but in any event even if inflation

531
00:21:58,798 --> 00:22:03,519
are expect well anchor you still have to

532
00:22:01,839 --> 00:22:04,918
bring output down because at the very

533
00:22:03,519 --> 00:22:07,440
least you need to close this pos

534
00:22:04,919 --> 00:22:09,520
positive output Gap and that if you're

535
00:22:07,440 --> 00:22:10,759
the FED in the US or any Central Bank

536
00:22:09,519 --> 00:22:12,759
you do it by increasing the real

537
00:22:10,759 --> 00:22:14,679
interest rate now in practice central

538
00:22:12,759 --> 00:22:15,839
banks really don't control the real

539
00:22:14,679 --> 00:22:17,200
interest they control the nominal

540
00:22:15,839 --> 00:22:19,480
interest ratees so there's a little

541
00:22:17,200 --> 00:22:20,720
fight there between inflation and and

542
00:22:19,480 --> 00:22:22,640
what they do to the nominal interest

543
00:22:20,720 --> 00:22:27,159
rate but let's ignore that complication

544
00:22:22,640 --> 00:22:29,720
for now okay now H suppose that the FED

545
00:22:27,159 --> 00:22:32,960
is is is in vacation

546
00:22:29,720 --> 00:22:35,480
and and and so and and somebody someone

547
00:22:32,960 --> 00:22:38,319
else you know decides in the government

548
00:22:35,480 --> 00:22:40,240
decides that no we cannot have this very

549
00:22:38,319 --> 00:22:42,519
high level of inflation so what else

550
00:22:40,240 --> 00:22:42,519
could you

551
00:22:42,679 --> 00:22:50,798
do and you're not the FED fed in

552
00:22:46,880 --> 00:22:52,960
vacation who else can make

553
00:22:50,798 --> 00:22:54,759
policy the government the central

554
00:22:52,960 --> 00:22:57,319
government the treasury and so on no

555
00:22:54,759 --> 00:22:59,319
what is the instrument they have what do

556
00:22:57,319 --> 00:23:00,759
they need to do

557
00:22:59,319 --> 00:23:02,119
the problem they have is output is too

558
00:23:00,759 --> 00:23:04,359
high and that's what is leading to lots

559
00:23:02,119 --> 00:23:08,158
of inflation so

560
00:23:04,359 --> 00:23:08,158
what do you think they should

561
00:23:09,919 --> 00:23:15,120
do c govern expend raise taxes something

562
00:23:12,960 --> 00:23:17,440
of that kind okay but they need a fiscal

563
00:23:15,119 --> 00:23:20,119
contraction because that will bring the

564
00:23:17,440 --> 00:23:23,320
yes down and so equilibrium

565
00:23:20,119 --> 00:23:25,000
output will be lower okay so that's an

566
00:23:23,319 --> 00:23:28,000
alternative you have you should know

567
00:23:25,000 --> 00:23:28,000
this

568
00:23:32,599 --> 00:23:37,119
and here I just did what we just

569
00:23:34,640 --> 00:23:39,600
discussed just in in a steps these

570
00:23:37,119 --> 00:23:41,399
things happen slowly the F doesn't hike

571
00:23:39,599 --> 00:23:43,798
interest rate in one shot and so on it

572
00:23:41,400 --> 00:23:46,080
takes a while before you get to the

573
00:23:43,798 --> 00:23:46,079
final

574
00:23:53,319 --> 00:23:57,599
equilibrium oh I I show you the

575
00:23:55,558 --> 00:23:59,079
deflationary spiral said sometimes

576
00:23:57,599 --> 00:24:02,439
things can get very

577
00:23:59,079 --> 00:24:04,879
complicated ER because you may hit the

578
00:24:02,440 --> 00:24:06,960
zero lower bound the FED can bring the

579
00:24:04,880 --> 00:24:09,360
nominal interest R to zero but if

580
00:24:06,960 --> 00:24:10,720
inflation is already low that may not

581
00:24:09,359 --> 00:24:12,079
give you the real interest that you need

582
00:24:10,720 --> 00:24:14,038
in order to get output equal to the

583
00:24:12,079 --> 00:24:16,599
Natural rate of output I me here was one

584
00:24:14,038 --> 00:24:18,278
example in which you need a negative

585
00:24:16,599 --> 00:24:20,959
real interest rate to get output to be

586
00:24:18,278 --> 00:24:23,880
equal to Natural rate of output but that

587
00:24:20,960 --> 00:24:26,798
may not happen because you you you hit

588
00:24:23,880 --> 00:24:28,720
the zero lower bound H and so at that

589
00:24:26,798 --> 00:24:31,158
point the problem you have is that and

590
00:24:28,720 --> 00:24:35,360
that's was the trag tragedy of Japan for

591
00:24:31,159 --> 00:24:38,000
so long is that not

592
00:24:35,359 --> 00:24:40,038
only you cannot bring the interest rate

593
00:24:38,000 --> 00:24:41,798
the nominal interest rate below zero but

594
00:24:40,038 --> 00:24:43,398
you start getting into deflationary

595
00:24:41,798 --> 00:24:45,319
inflation below expectation and

596
00:24:43,398 --> 00:24:47,278
expectation goes to number very close to

597
00:24:45,319 --> 00:24:49,359
zero because of an anchor deflation

598
00:24:47,278 --> 00:24:51,558
expectations then you start getting

599
00:24:49,359 --> 00:24:53,319
negative expected inflation and when you

600
00:24:51,558 --> 00:24:54,918
get Negative expected inflation even if

601
00:24:53,319 --> 00:24:56,158
you're at the zero lower Bound in the

602
00:24:54,919 --> 00:24:57,679
nominal interest rate that means a

603
00:24:56,159 --> 00:24:59,120
positive real interest rate so

604
00:24:57,679 --> 00:25:00,559
effectively you're increasing interest

605
00:24:59,119 --> 00:25:02,839
rate at the same time and that can be a

606
00:25:00,558 --> 00:25:04,200
very complicated thing to get out of

607
00:25:02,839 --> 00:25:05,359
again that's what happened to Japan for

608
00:25:04,200 --> 00:25:07,798
a long

609
00:25:05,359 --> 00:25:09,959
time what would you do if as a

610
00:25:07,798 --> 00:25:12,158
government if you fall into a situation

611
00:25:09,960 --> 00:25:12,159
like

612
00:25:12,839 --> 00:25:18,558
that and Japan did a lot of

613
00:25:16,079 --> 00:25:21,158
that well you can do lots of things but

614
00:25:18,558 --> 00:25:23,519
but in particular of the kind of things

615
00:25:21,159 --> 00:25:25,480
you know what what would you do if you

616
00:25:23,519 --> 00:25:27,519
are in a situation like this in which

617
00:25:25,480 --> 00:25:29,880
the zero lower bound is binding and and

618
00:25:27,519 --> 00:25:31,960
inflation is actually falling here I had

619
00:25:29,880 --> 00:25:34,200
a benign case in which inflation

620
00:25:31,960 --> 00:25:35,399
expectation was well anchor that's not

621
00:25:34,200 --> 00:25:36,600
what happened to Japan after they

622
00:25:35,398 --> 00:25:39,119
experienced a long period of

623
00:25:36,599 --> 00:25:40,959
deflationary forces the then the people

624
00:25:39,119 --> 00:25:46,119
began to expect more deflation more

625
00:25:40,960 --> 00:25:46,120
deflation and so on so what else can you

626
00:25:51,558 --> 00:25:57,200
do let me give you a hint Japan is one

627
00:25:55,200 --> 00:25:59,480
of the countries has the highest levels

628
00:25:57,200 --> 00:26:02,558
of public debt

629
00:25:59,480 --> 00:26:05,519
how do you accumulate public

630
00:26:02,558 --> 00:26:07,678
debt yeah you you need to borrow a lot

631
00:26:05,519 --> 00:26:08,918
you have big fiscal deficit so that's

632
00:26:07,679 --> 00:26:11,000
the way you can fight this you know you

633
00:26:08,919 --> 00:26:12,840
can shift the yes to the right by having

634
00:26:11,000 --> 00:26:15,200
an expansionary fiscal policy that's the

635
00:26:12,839 --> 00:26:16,558
only tool really you have you lose the

636
00:26:15,200 --> 00:26:18,319
power of monetary policy against the

637
00:26:16,558 --> 00:26:19,918
zero lower bound but you still have

638
00:26:18,319 --> 00:26:23,278
fiscal policy and they did a lot of

639
00:26:19,919 --> 00:26:23,278
fiscal policy

640
00:26:28,359 --> 00:26:33,599
not

641
00:26:29,960 --> 00:26:36,759
interesting this is this is interesting

642
00:26:33,599 --> 00:26:38,359
ER that's a different kind of shock

643
00:26:36,759 --> 00:26:40,599
suppose you are at your medium run

644
00:26:38,359 --> 00:26:43,158
equilibrium and then all of a sudden

645
00:26:40,599 --> 00:26:45,119
markups go up perhaps for example

646
00:26:43,159 --> 00:26:49,000
because the price of oil went up a lot

647
00:26:45,119 --> 00:26:50,119
and something like that so then what you

648
00:26:49,000 --> 00:26:51,919
then that's a different kind of shock

649
00:26:50,119 --> 00:26:53,359
from the previous one from from any

650
00:26:51,919 --> 00:26:54,720
fiscal sh or anything like that that's

651
00:26:53,359 --> 00:26:56,798
an aggregate demand this is an agre

652
00:26:54,720 --> 00:27:00,240
supply problem because the first thing I

653
00:26:56,798 --> 00:27:01,839
know of a permanent at least change in m

654
00:27:00,240 --> 00:27:02,960
is that the natural rate of unemployment

655
00:27:01,839 --> 00:27:05,398
has to

656
00:27:02,960 --> 00:27:07,558
rise if the natural rate of unemployment

657
00:27:05,398 --> 00:27:09,038
has to rise that mean my Philips Curve

658
00:27:07,558 --> 00:27:12,158
will shift

659
00:27:09,038 --> 00:27:13,839
now okay in that particular case I know

660
00:27:12,159 --> 00:27:16,799
the Philips Curve will shift to the left

661
00:27:13,839 --> 00:27:17,959
how do I know that well because I know

662
00:27:16,798 --> 00:27:20,119
that that the natural rate of

663
00:27:17,960 --> 00:27:22,600
unemployment went up which means the

664
00:27:20,119 --> 00:27:24,519
natural rate of natural level of output

665
00:27:22,599 --> 00:27:26,678
has to come down and the natural level

666
00:27:24,519 --> 00:27:28,558
of output coming down means simply that

667
00:27:26,679 --> 00:27:30,320
that the level at which is expected

668
00:27:28,558 --> 00:27:32,960
inflation and inflation are

669
00:27:30,319 --> 00:27:35,079
equal happens at a lower level of output

670
00:27:32,960 --> 00:27:36,880
so the Philips can move to the left so

671
00:27:35,079 --> 00:27:38,599
suppose you were in this equilibrium

672
00:27:36,880 --> 00:27:41,399
here I'm doing for the case of an anchor

673
00:27:38,599 --> 00:27:44,678
expectations but the same logic goes for

674
00:27:41,398 --> 00:27:46,398
the case of anchor expectation ER so

675
00:27:44,679 --> 00:27:47,759
suppose you were at some equilibrium

676
00:27:46,398 --> 00:27:49,639
like this it was your medium run

677
00:27:47,759 --> 00:27:51,798
equilibrium but now the price of energy

678
00:27:49,640 --> 00:27:53,919
goes up a lot and and and you expect

679
00:27:51,798 --> 00:27:56,119
that to last for a while that means the

680
00:27:53,919 --> 00:27:58,720
Philips curve moves up so that means

681
00:27:56,119 --> 00:28:00,439
that if output with output at this level

682
00:27:58,720 --> 00:28:02,600
now you get you have a problem because

683
00:28:00,440 --> 00:28:05,120
you start getting inflation out of this

684
00:28:02,599 --> 00:28:07,678
okay because this this level of output

685
00:28:05,119 --> 00:28:09,918
is too high relative to the new level of

686
00:28:07,679 --> 00:28:11,640
the natural the new level of natural

687
00:28:09,919 --> 00:28:13,960
level of output so you have a positive

688
00:28:11,640 --> 00:28:16,240
output Gap positive output Gap means

689
00:28:13,960 --> 00:28:18,079
inflation above expected inflation if

690
00:28:16,240 --> 00:28:20,000
you have an anchor expectations means

691
00:28:18,079 --> 00:28:21,558
inflation starts

692
00:28:20,000 --> 00:28:24,640
rising

693
00:28:21,558 --> 00:28:26,319
up so that means the FED now needs to

694
00:28:24,640 --> 00:28:29,679
react to that and needs to tighten

695
00:28:26,319 --> 00:28:32,599
interest rate in order to to go to a new

696
00:28:29,679 --> 00:28:35,120
level of H natural level of output okay

697
00:28:32,599 --> 00:28:37,000
and that's the response but if the F

698
00:28:35,119 --> 00:28:38,839
that's not react and a little bit of

699
00:28:37,000 --> 00:28:41,000
this is what happened we had some Supply

700
00:28:38,839 --> 00:28:42,558
shocks and so on that were considered to

701
00:28:41,000 --> 00:28:44,919
be temporary well they weren't as

702
00:28:42,558 --> 00:28:46,639
temporary so there was no reaction but

703
00:28:44,919 --> 00:28:50,360
it turns out that that they lasted a lot

704
00:28:46,640 --> 00:28:52,679
longer than the fair expected and so so

705
00:28:50,359 --> 00:28:56,038
so now they had to catch up

706
00:28:52,679 --> 00:28:59,038
okay that was part of the reason we got

707
00:28:56,038 --> 00:29:01,359
into a high inflation episode

708
00:28:59,038 --> 00:29:04,519
that was the main reason in

709
00:29:01,359 --> 00:29:07,000
Europe the US is a mixture of aggregate

710
00:29:04,519 --> 00:29:10,679
demand lots of fiscal policy and so on

711
00:29:07,000 --> 00:29:13,720
and ER and supply side in Europe was

712
00:29:10,679 --> 00:29:13,720
very much a story of this

713
00:29:19,240 --> 00:29:24,919
kind well a financial Panic you need to

714
00:29:22,960 --> 00:29:27,278
upset it with a decline in in in real

715
00:29:24,919 --> 00:29:29,278
interest rate and a little bit of that

716
00:29:27,278 --> 00:29:31,319
has been happening it's not the FED that

717
00:29:29,278 --> 00:29:33,398
has cut their rates but but the markets

718
00:29:31,319 --> 00:29:36,278
have anticipated the FED will not raise

719
00:29:33,398 --> 00:29:38,558
interest rate as much as they expected

720
00:29:36,278 --> 00:29:41,359
before we got we got into this banking

721
00:29:38,558 --> 00:29:43,200
mess so we had already sort of studied

722
00:29:41,359 --> 00:29:45,839
the short run the medium run and now we

723
00:29:43,200 --> 00:29:47,880
want to look at the long run okay and

724
00:29:45,839 --> 00:29:52,199
that's what economic growth is about

725
00:29:47,880 --> 00:29:52,200
economic growth Theory and facts and so

726
00:29:53,798 --> 00:30:01,839
on let me go to so one of the things I

727
00:29:58,599 --> 00:30:04,599
I highlighted is that we tend to

728
00:30:01,839 --> 00:30:07,599
see among countries that are fairly

729
00:30:04,599 --> 00:30:07,599
similar

730
00:30:07,679 --> 00:30:13,600
along education and variables like that

731
00:30:11,278 --> 00:30:15,640
systems economic systems and political

732
00:30:13,599 --> 00:30:18,240
systems and so on you tend to find

733
00:30:15,640 --> 00:30:21,080
relationship like this that is countries

734
00:30:18,240 --> 00:30:22,558
with a lower per capita income at the

735
00:30:21,079 --> 00:30:24,319
beginning of the sample tend to grow

736
00:30:22,558 --> 00:30:26,278
faster in the sample and that captures

737
00:30:24,319 --> 00:30:28,519
very much the idea that there's a

738
00:30:26,278 --> 00:30:31,278
convergence there's a force towards

739
00:30:28,519 --> 00:30:34,319
convergence of H income per capita if

740
00:30:31,278 --> 00:30:36,038
you will okay that's another

741
00:30:34,319 --> 00:30:40,200
illustration of that phenomenon lots of

742
00:30:36,038 --> 00:30:41,599
dispersion here ER 70 years later a lot

743
00:30:40,200 --> 00:30:43,840
less

744
00:30:41,599 --> 00:30:46,599
dispersion but we also said that some

745
00:30:43,839 --> 00:30:50,119
countries that do not match that and but

746
00:30:46,599 --> 00:30:53,398
we focus most of what we did in

747
00:30:50,119 --> 00:30:55,518
growth on understanding this process the

748
00:30:53,398 --> 00:30:57,000
process of convergence and how it

749
00:30:55,519 --> 00:30:59,319
happened with without technological

750
00:30:57,000 --> 00:31:02,720
progress and so on and then we spent a

751
00:30:59,319 --> 00:31:04,879
little bit of a lecture say at most 10

752
00:31:02,720 --> 00:31:07,120
10 points worth in a quiz or seven

753
00:31:04,880 --> 00:31:11,240
points talking about sort of anomalies

754
00:31:07,119 --> 00:31:11,239
and things like that no five points or

755
00:31:12,159 --> 00:31:18,720
something so the key ER object here one

756
00:31:16,159 --> 00:31:21,360
of the key objects there there are a

757
00:31:18,720 --> 00:31:22,798
couple but but one of them was well now

758
00:31:21,359 --> 00:31:24,479
we need to be a little bit more serious

759
00:31:22,798 --> 00:31:27,158
about the production function we said

760
00:31:24,480 --> 00:31:28,880
because for the short it's okay to take

761
00:31:27,159 --> 00:31:30,440
Capital as given and just worry about

762
00:31:28,880 --> 00:31:32,200
most of the fluctuation in output will

763
00:31:30,440 --> 00:31:34,798
come from fluctuations in

764
00:31:32,200 --> 00:31:36,480
employment that's not so over long

765
00:31:34,798 --> 00:31:39,599
periods of time capital accumulation

766
00:31:36,480 --> 00:31:41,960
plays a huge role and so we need to be

767
00:31:39,599 --> 00:31:44,918
explicit about the fact that Capital

768
00:31:41,960 --> 00:31:47,960
matters a lot for production

769
00:31:44,919 --> 00:31:50,440
okay and so we postulated a production

770
00:31:47,960 --> 00:31:52,720
function like this output as increas

771
00:31:50,440 --> 00:31:54,960
increasing function of cap and of

772
00:31:52,720 --> 00:31:56,079
capital and labor and now we said for

773
00:31:54,960 --> 00:31:57,960
this part of the course we're not going

774
00:31:56,079 --> 00:31:59,678
to worry about unemployment and so on

775
00:31:57,960 --> 00:32:02,240
employment labor force population

776
00:31:59,679 --> 00:32:04,320
they're all the same for us here for

777
00:32:02,240 --> 00:32:06,319
this part of the course and then said

778
00:32:04,319 --> 00:32:07,798
this production function has some

779
00:32:06,319 --> 00:32:10,599
important

780
00:32:07,798 --> 00:32:12,679
properties one is it has constant

781
00:32:10,599 --> 00:32:14,158
returns to scale things change quite a

782
00:32:12,679 --> 00:32:15,798
bit if you don't have constant return to

783
00:32:14,159 --> 00:32:18,679
scale so we have constant return to

784
00:32:15,798 --> 00:32:21,480
scale which means you should know this

785
00:32:18,679 --> 00:32:23,559
that if you scale all output all input

786
00:32:21,480 --> 00:32:26,440
all the factors of Productions by the

787
00:32:23,558 --> 00:32:29,960
same factor output Also Rises by the

788
00:32:26,440 --> 00:32:32,480
same factor okay so a production

789
00:32:29,960 --> 00:32:36,679
function we use a lot was aob Douglas

790
00:32:32,480 --> 00:32:38,519
you know output equal square root of K *

791
00:32:36,679 --> 00:32:41,320
the square root of n well the sum of

792
00:32:38,519 --> 00:32:42,798
those exponents is one so that's a a

793
00:32:41,319 --> 00:32:46,079
production function with constant return

794
00:32:42,798 --> 00:32:48,200
to scale okay so anything that has the

795
00:32:46,079 --> 00:32:50,319
exponents add up to one then you're

796
00:32:48,200 --> 00:32:54,240
that's a constant return to scale

797
00:32:50,319 --> 00:32:57,000
technology but importantly and it also

798
00:32:54,240 --> 00:32:58,599
has decreasing returns with each of its

799
00:32:57,000 --> 00:33:01,880
factor of production

800
00:32:58,599 --> 00:33:04,038
that means as you rather than moving

801
00:33:01,880 --> 00:33:05,880
both factors of production up you move

802
00:33:04,038 --> 00:33:08,359
only one well you're going to increase

803
00:33:05,880 --> 00:33:10,039
output but as just keep increasing that

804
00:33:08,359 --> 00:33:11,558
factor alone you're going to increase

805
00:33:10,038 --> 00:33:13,278
output by less and less and less and

806
00:33:11,558 --> 00:33:14,319
less because essentially has fewer and

807
00:33:13,278 --> 00:33:17,119
fewer of the

808
00:33:14,319 --> 00:33:19,240
other factor of production to work with

809
00:33:17,119 --> 00:33:22,000
okay and so that's decreasing returns to

810
00:33:19,240 --> 00:33:23,679
Capital or labor I mean if you fix the

811
00:33:22,000 --> 00:33:25,480
other factor of production you move up

812
00:33:23,679 --> 00:33:28,840
it's going to increase at a decreasing

813
00:33:25,480 --> 00:33:32,240
rate so one normalization that we start

814
00:33:28,839 --> 00:33:35,480
with was well a scaling Factor could be

815
00:33:32,240 --> 00:33:37,798
a population one over population okay

816
00:33:35,480 --> 00:33:40,759
that's a scaling factor and if I do that

817
00:33:37,798 --> 00:33:44,440
I multiply both everything by one / n

818
00:33:40,759 --> 00:33:47,038
would go into output per person is an

819
00:33:44,440 --> 00:33:49,240
increasing function of a increasing

820
00:33:47,038 --> 00:33:52,839
function but at a increasing rate of

821
00:33:49,240 --> 00:33:56,120
capital per person okay we plot that

822
00:33:52,839 --> 00:33:58,158
function here and and this conc is

823
00:33:56,119 --> 00:34:03,038
increasing but it's concave that shows

824
00:33:58,159 --> 00:34:05,159
the decreasing returns of capital no h

825
00:34:03,038 --> 00:34:07,279
and we got that function there then the

826
00:34:05,159 --> 00:34:12,159
SEC uh and we talk

827
00:34:07,279 --> 00:34:16,079
well we said H so so so when you move in

828
00:34:12,159 --> 00:34:18,398
this you can increase output per person

829
00:34:16,079 --> 00:34:20,679
per per person by simply increasing

830
00:34:18,398 --> 00:34:23,358
Capital per person and the more you

831
00:34:20,679 --> 00:34:25,119
increase Capital per person output will

832
00:34:23,358 --> 00:34:27,519
increase more and more but but but at a

833
00:34:25,119 --> 00:34:29,280
decreasing rate you can see that moving

834
00:34:27,519 --> 00:34:31,239
a the distance between A and B is the

835
00:34:29,280 --> 00:34:32,919
same as the distance between C and D

836
00:34:31,239 --> 00:34:35,959
however the increasing output when you

837
00:34:32,918 --> 00:34:38,039
go from A to B is enormous compar when

838
00:34:35,960 --> 00:34:39,639
compare with the increasing output that

839
00:34:38,039 --> 00:34:43,000
you get from the increasing capitals

840
00:34:39,639 --> 00:34:45,559
over per per person from C to D okay

841
00:34:43,000 --> 00:34:49,280
decreasing returns this there is another

842
00:34:45,559 --> 00:34:51,918
way of of increasing output per person

843
00:34:49,280 --> 00:34:54,399
which is with technological progress

844
00:34:51,918 --> 00:34:57,319
when the function f shifting up over

845
00:34:54,398 --> 00:34:59,719
time and we split the two main lectures

846
00:34:57,320 --> 00:35:02,720
in grow both into one part one in which

847
00:34:59,719 --> 00:35:05,199
we just we shut down the second Channel

848
00:35:02,719 --> 00:35:09,480
and then the second important lecture

849
00:35:05,199 --> 00:35:12,519
here had we focus on this channel so

850
00:35:09,480 --> 00:35:12,519
that's a that's what we

851
00:35:14,280 --> 00:35:19,960
have so let's go to when I shut down

852
00:35:17,119 --> 00:35:21,480
this channel for now and focus on on the

853
00:35:19,960 --> 00:35:24,358
case without technological progress

854
00:35:21,480 --> 00:35:26,119
first okay so so we put things together

855
00:35:24,358 --> 00:35:29,960
we said this is comes from the previous

856
00:35:26,119 --> 00:35:33,960
lecture we can write a output per

857
00:35:29,960 --> 00:35:37,960
uh per person as an increasing function

858
00:35:33,960 --> 00:35:41,280
of um Capital per person second key

859
00:35:37,960 --> 00:35:43,880
equation is well this is a proper it has

860
00:35:41,280 --> 00:35:46,320
to be if you in a closed economy no over

861
00:35:43,880 --> 00:35:48,280
expenditure or anything like we could

862
00:35:46,320 --> 00:35:50,800
add that but it's not important for the

863
00:35:48,280 --> 00:35:52,079
message then investment has to be equal

864
00:35:50,800 --> 00:35:54,000
so investment is going to be very

865
00:35:52,079 --> 00:35:57,039
important here because it's what will

866
00:35:54,000 --> 00:35:58,440
make the Capital stock grow but there

867
00:35:57,039 --> 00:36:01,358
has to be funed fing for that and the

868
00:35:58,440 --> 00:36:02,720
funding come from saving okay and we

869
00:36:01,358 --> 00:36:04,400
simplify things by assuming that the

870
00:36:02,719 --> 00:36:06,519
saving function is just proportional to

871
00:36:04,400 --> 00:36:08,119
the level of output which is reasonable

872
00:36:06,519 --> 00:36:10,039
when you think about long run all these

873
00:36:08,119 --> 00:36:12,000
things scale up when you're thinking

874
00:36:10,039 --> 00:36:14,719
about very shortterm no we have some

875
00:36:12,000 --> 00:36:17,079
constants and so on floating around but

876
00:36:14,719 --> 00:36:20,358
but but over the long run things do

877
00:36:17,079 --> 00:36:21,880
scale up and so we can write investment

878
00:36:20,358 --> 00:36:24,000
in equilibrium investment has to be

879
00:36:21,880 --> 00:36:26,760
equal to saving saving is proportional

880
00:36:24,000 --> 00:36:30,318
to Output so we get that investment in

881
00:36:26,760 --> 00:36:31,920
this economy is increasing in output

882
00:36:30,318 --> 00:36:35,400
this is an constant somewhere between

883
00:36:31,920 --> 00:36:36,639
zero and one okay and the last key

884
00:36:35,400 --> 00:36:38,000
equation here is the capital

885
00:36:36,639 --> 00:36:41,480
accumulation equation the capital

886
00:36:38,000 --> 00:36:45,239
accumulation equation says that Capital

887
00:36:41,480 --> 00:36:47,639
t+ One is equal to Capital today minus

888
00:36:45,239 --> 00:36:50,559
the depreciation some a fraction of the

889
00:36:47,639 --> 00:36:54,358
machines break down in every period but

890
00:36:50,559 --> 00:36:56,719
plus the new investment plus I okay and

891
00:36:54,358 --> 00:36:59,759
we rote things and replace the saving

892
00:36:56,719 --> 00:37:02,000
function and so on and we end up in in

893
00:36:59,760 --> 00:37:04,480
in qu an expression like this that says

894
00:37:02,000 --> 00:37:06,760
Capital per person here grows with

895
00:37:04,480 --> 00:37:08,000
investment which is funded by savings

896
00:37:06,760 --> 00:37:09,680
which is an increasing function of

897
00:37:08,000 --> 00:37:12,400
output which in turn is an increasing

898
00:37:09,679 --> 00:37:14,639
function of capital per person minus

899
00:37:12,400 --> 00:37:17,559
whatever is the depreciation and what we

900
00:37:14,639 --> 00:37:20,118
did then the the start diagram in in in

901
00:37:17,559 --> 00:37:22,480
the solo model is is we plot this

902
00:37:20,119 --> 00:37:23,960
function and that function we know that

903
00:37:22,480 --> 00:37:27,599
the state state is when these two things

904
00:37:23,960 --> 00:37:31,039
are equal that pins down the K star of

905
00:37:27,599 --> 00:37:33,720
over n k Over N start of this economy

906
00:37:31,039 --> 00:37:35,599
but we also know that to the left of

907
00:37:33,719 --> 00:37:39,078
that point in in capital

908
00:37:35,599 --> 00:37:41,960
space this term is greater than that and

909
00:37:39,079 --> 00:37:44,960
therefore H the Capital stock is rising

910
00:37:41,960 --> 00:37:46,400
to the right we get that this term is

911
00:37:44,960 --> 00:37:49,240
greater than that and therefore the

912
00:37:46,400 --> 00:37:51,480
Capital stock is falling okay and that's

913
00:37:49,239 --> 00:37:53,679
what we have in this diagram so that's

914
00:37:51,480 --> 00:37:55,639
the state of the economy when when the

915
00:37:53,679 --> 00:37:58,358
depreciation per worker which is the

916
00:37:55,639 --> 00:38:00,000
require in the minimum in you need to

917
00:37:58,358 --> 00:38:03,318
keep the Capital stock constant is

918
00:38:00,000 --> 00:38:05,280
whatever is depreciation per worker no

919
00:38:03,318 --> 00:38:07,119
anything else you do it will grow the

920
00:38:05,280 --> 00:38:08,280
stock of capital anything less you do

921
00:38:07,119 --> 00:38:10,200
you're not maintaining enough of your

922
00:38:08,280 --> 00:38:13,400
Capital stock is declining and that's

923
00:38:10,199 --> 00:38:17,279
exactly what happens here that's State

924
00:38:13,400 --> 00:38:18,838
you have Capital below that then then uh

925
00:38:17,280 --> 00:38:20,640
Capital stock will be rising because you

926
00:38:18,838 --> 00:38:22,199
have lots of saving and therefore lots

927
00:38:20,639 --> 00:38:23,679
of investment relative to what you need

928
00:38:22,199 --> 00:38:26,439
in order to maintain the stock of the

929
00:38:23,679 --> 00:38:29,440
small stock of capital you have until

930
00:38:26,440 --> 00:38:29,440
you reach a c state

931
00:38:29,838 --> 00:38:36,920
and the and you know the this model

932
00:38:34,199 --> 00:38:39,239
alone can explain really the that

933
00:38:36,920 --> 00:38:41,159
pattern we have that that you know that

934
00:38:39,239 --> 00:38:43,479
the poorer economies tended to grow

935
00:38:41,159 --> 00:38:45,118
faster than the Richer economies if you

936
00:38:43,480 --> 00:38:48,358
think of poorer economies as economies

937
00:38:45,119 --> 00:38:51,000
that are otherwise similar but that have

938
00:38:48,358 --> 00:38:52,480
low a low stock of capital to start with

939
00:38:51,000 --> 00:38:54,280
well those economies are going to be to

940
00:38:52,480 --> 00:38:55,920
the left of the stady state and

941
00:38:54,280 --> 00:38:57,560
therefore they're going to tend to grow

942
00:38:55,920 --> 00:39:00,960
at whatever is the steady state rate of

943
00:38:57,559 --> 00:39:03,358
growth plus this catching up growth okay

944
00:39:00,960 --> 00:39:06,440
and so this is a very powerful little

945
00:39:03,358 --> 00:39:08,598
model it can explain a lot of that those

946
00:39:06,440 --> 00:39:11,800
convergence the convergence that we saw

947
00:39:08,599 --> 00:39:14,200
in in the data

948
00:39:11,800 --> 00:39:17,560
okay do you understand

949
00:39:14,199 --> 00:39:17,559
this this is

950
00:39:17,679 --> 00:39:22,919
important

951
00:39:20,599 --> 00:39:24,359
okay then we did some experiments what

952
00:39:22,920 --> 00:39:26,039
happens if you increase the saving rate

953
00:39:24,358 --> 00:39:27,880
at the time when solo was writing this

954
00:39:26,039 --> 00:39:30,318
model many people said that what was

955
00:39:27,880 --> 00:39:33,240
behind growth was saving well in this

956
00:39:30,318 --> 00:39:36,119
model we show that indeed if a saving

957
00:39:33,239 --> 00:39:38,039
rate Rises then you at any given level

958
00:39:36,119 --> 00:39:40,559
of capital suppose that was the oldest

959
00:39:38,039 --> 00:39:44,800
state if now the saving rate Rises that

960
00:39:40,559 --> 00:39:46,719
will increase H increase investment

961
00:39:44,800 --> 00:39:48,480
above what you need to maintain that

962
00:39:46,719 --> 00:39:50,159
level of the stock of capital so the

963
00:39:48,480 --> 00:39:52,800
stock stock of capital going to start

964
00:39:50,159 --> 00:39:54,920
growing when that happens output per

965
00:39:52,800 --> 00:39:56,720
capita will grow faster than in a state

966
00:39:54,920 --> 00:39:58,680
state because you're going to go be

967
00:39:56,719 --> 00:40:00,358
going from here to there but eventually

968
00:39:58,679 --> 00:40:02,078
you'll converge to the same whole rate

969
00:40:00,358 --> 00:40:04,679
of growth so the point here is that the

970
00:40:02,079 --> 00:40:06,200
saving rate cannot change per se does

971
00:40:04,679 --> 00:40:08,039
not change the rate of growth in the

972
00:40:06,199 --> 00:40:10,399
long run but it gives you transitional

973
00:40:08,039 --> 00:40:12,759
growth and a lot of the the Asian

974
00:40:10,400 --> 00:40:15,920
Miracle of the very fast rates of growth

975
00:40:12,760 --> 00:40:17,920
from the 60s and 70s and 80s has to do

976
00:40:15,920 --> 00:40:19,720
with this kind of thing very sudden

977
00:40:17,920 --> 00:40:22,039
increasing saving rates plus other

978
00:40:19,719 --> 00:40:24,239
institutional changes and so on but High

979
00:40:22,039 --> 00:40:27,759
increase in the saving rate that also Le

980
00:40:24,239 --> 00:40:29,399
led to very fast growth okay so again

981
00:40:27,760 --> 00:40:31,760
this little model can explain a lot as

982
00:40:29,400 --> 00:40:34,160
well it can explain when you see those

983
00:40:31,760 --> 00:40:35,480
growth Miracles often is associated to

984
00:40:34,159 --> 00:40:37,639
some for some

985
00:40:35,480 --> 00:40:40,358
reason varies a lot across different

986
00:40:37,639 --> 00:40:41,759
scenarios the saving rate went up quite

987
00:40:40,358 --> 00:40:44,880
a

988
00:40:41,760 --> 00:40:46,280
bit but point is so that gives you very

989
00:40:44,880 --> 00:40:49,800
fast growth in the short term but

990
00:40:46,280 --> 00:40:53,519
eventually pets out

991
00:40:49,800 --> 00:40:55,720
okay so the the the next thing we all

992
00:40:53,519 --> 00:40:58,318
that we did for a fixed population it

993
00:40:55,719 --> 00:40:59,598
said well so suppose now the population

994
00:40:58,318 --> 00:41:02,719
is

995
00:40:59,599 --> 00:41:04,160
growing H I said the diagram we had

996
00:41:02,719 --> 00:41:05,598
before would be very unpleasant because

997
00:41:04,159 --> 00:41:07,199
all these curves would be shifting so

998
00:41:05,599 --> 00:41:08,760
what we need well what we need to do is

999
00:41:07,199 --> 00:41:11,159
divide not by a constant we need to

1000
00:41:08,760 --> 00:41:13,480
divide by whatever is the population at

1001
00:41:11,159 --> 00:41:15,399
that point in time and that will give us

1002
00:41:13,480 --> 00:41:17,639
the same diagram we had with one little

1003
00:41:15,400 --> 00:41:20,760
twist so I went through sort of a little

1004
00:41:17,639 --> 00:41:24,159
algebra here to arrive to a capital

1005
00:41:20,760 --> 00:41:26,319
accumulation equation Capital per person

1006
00:41:24,159 --> 00:41:28,519
equ an equation for the change in the

1007
00:41:26,318 --> 00:41:30,639
capital per person which is very similar

1008
00:41:28,519 --> 00:41:33,599
to what we had the only difference is

1009
00:41:30,639 --> 00:41:35,199
that the required capital investment

1010
00:41:33,599 --> 00:41:37,720
required to maintain the stock of

1011
00:41:35,199 --> 00:41:39,598
capital per person has an extra term

1012
00:41:37,719 --> 00:41:43,000
here

1013
00:41:39,599 --> 00:41:44,480
GM and I said that GM so let's think

1014
00:41:43,000 --> 00:41:49,679
about this

1015
00:41:44,480 --> 00:41:51,079
term so Delta so think of this as the

1016
00:41:49,679 --> 00:41:52,960
required

1017
00:41:51,079 --> 00:41:54,480
investment in order to maintain the

1018
00:41:52,960 --> 00:41:58,679
stock of capital where it

1019
00:41:54,480 --> 00:42:00,079
was ER if if h this Delta comes from the

1020
00:41:58,679 --> 00:42:01,879
fact that well you have a stock of

1021
00:42:00,079 --> 00:42:03,440
capital you lose a fraction of that well

1022
00:42:01,880 --> 00:42:04,960
you need an investment equal to that

1023
00:42:03,440 --> 00:42:07,440
fraction that you lost in order to

1024
00:42:04,960 --> 00:42:10,000
maintain the stock of capital the same

1025
00:42:07,440 --> 00:42:12,880
that's that's that's that's

1026
00:42:10,000 --> 00:42:16,119
clear but that's not enough to maintain

1027
00:42:12,880 --> 00:42:18,680
the capital per person constant if if

1028
00:42:16,119 --> 00:42:21,400
per person is rising population is

1029
00:42:18,679 --> 00:42:23,799
rising because even if you maintain the

1030
00:42:21,400 --> 00:42:25,800
stock of capital constant the

1031
00:42:23,800 --> 00:42:28,000
denominator is rising at the rate of

1032
00:42:25,800 --> 00:42:30,280
population growth

1033
00:42:28,000 --> 00:42:32,760
so in order to maintain the capital per

1034
00:42:30,280 --> 00:42:35,240
person constant you need to deal with

1035
00:42:32,760 --> 00:42:36,599
the growth of denominator as well and

1036
00:42:35,239 --> 00:42:38,959
that means you need a little you need

1037
00:42:36,599 --> 00:42:42,280
also investment to match the increase in

1038
00:42:38,960 --> 00:42:45,280
population so they can keep the capital

1039
00:42:42,280 --> 00:42:47,000
per person constant okay so that's a

1040
00:42:45,280 --> 00:42:49,079
that's a modification so in terms of our

1041
00:42:47,000 --> 00:42:50,639
diagram all that happened here I have

1042
00:42:49,079 --> 00:42:52,680
technological progress as well set it to

1043
00:42:50,639 --> 00:42:55,519
zero for now all that happened relative

1044
00:42:52,679 --> 00:42:57,759
to the previous diagram is that now this

1045
00:42:55,519 --> 00:43:00,519
I rotated this curve up upward a little

1046
00:42:57,760 --> 00:43:00,520
bit okay

1047
00:43:00,639 --> 00:43:05,318
GN but then you conduct analysis exactly

1048
00:43:03,119 --> 00:43:07,160
in the same way the only thing that is

1049
00:43:05,318 --> 00:43:09,558
different now is that in the previous

1050
00:43:07,159 --> 00:43:12,159
model we had that the rate of growth the

1051
00:43:09,559 --> 00:43:14,519
stady state rate of growth was equal to

1052
00:43:12,159 --> 00:43:16,480
zero and the state state rate of growth

1053
00:43:14,519 --> 00:43:18,480
of output per person was also equal to

1054
00:43:16,480 --> 00:43:21,280
zero population was not growing output

1055
00:43:18,480 --> 00:43:24,679
was not growing the ratio wasn't growing

1056
00:43:21,280 --> 00:43:28,319
either here is still the case that in a

1057
00:43:24,679 --> 00:43:32,159
steady state output per person is is not

1058
00:43:28,318 --> 00:43:34,920
growing okay but that also means since

1059
00:43:32,159 --> 00:43:38,118
population is growing at the rate GN or

1060
00:43:34,920 --> 00:43:41,079
N I don't know how I call it here H that

1061
00:43:38,119 --> 00:43:44,318
means output must be also growing at the

1062
00:43:41,079 --> 00:43:48,240
rate GN that's what will keep output per

1063
00:43:44,318 --> 00:43:50,679
person not growing okay so so for the

1064
00:43:48,239 --> 00:43:53,439
output itself a very important factor in

1065
00:43:50,679 --> 00:43:55,639
in in in in the in growth is population

1066
00:43:53,440 --> 00:43:57,519
growth and if you look at rates of

1067
00:43:55,639 --> 00:44:00,358
growth in general in the world s

1068
00:43:57,519 --> 00:44:03,000
certainly in the developed World H

1069
00:44:00,358 --> 00:44:04,519
they're falling for a variety of reasons

1070
00:44:03,000 --> 00:44:05,519
and one of them is because population

1071
00:44:04,519 --> 00:44:08,759
growth is

1072
00:44:05,519 --> 00:44:11,239
falling okay but per person that doesn't

1073
00:44:08,760 --> 00:44:14,079
make a difference but but but for the

1074
00:44:11,239 --> 00:44:16,879
level the rate of growth it does and

1075
00:44:14,079 --> 00:44:20,240
then we we added technological progress

1076
00:44:16,880 --> 00:44:23,519
which we model as a effective as

1077
00:44:20,239 --> 00:44:26,199
enhancing labor so having a better

1078
00:44:23,519 --> 00:44:27,920
technology means is as you had more

1079
00:44:26,199 --> 00:44:29,960
workers so for any given level of

1080
00:44:27,920 --> 00:44:33,079
workers having a better technology we

1081
00:44:29,960 --> 00:44:35,400
model it as having more workers okay and

1082
00:44:33,079 --> 00:44:37,200
you can model it exactly that way you

1083
00:44:35,400 --> 00:44:39,680
can use exactly the same diagram we had

1084
00:44:37,199 --> 00:44:41,159
before but now we will divide our

1085
00:44:39,679 --> 00:44:43,000
scaling Factor rather than being one

1086
00:44:41,159 --> 00:44:45,598
over population is going to be one over

1087
00:44:43,000 --> 00:44:47,800
effective population effective workers

1088
00:44:45,599 --> 00:44:49,318
one over again and you conduct exactly

1089
00:44:47,800 --> 00:44:52,960
the same analysis you do exactly the

1090
00:44:49,318 --> 00:44:54,960
same approximations I did before H but

1091
00:44:52,960 --> 00:44:59,159
the difference now is

1092
00:44:54,960 --> 00:45:01,920
that ER is that here you have a rather

1093
00:44:59,159 --> 00:45:06,199
than GN you have

1094
00:45:01,920 --> 00:45:09,079
G why is that well because if I want to

1095
00:45:06,199 --> 00:45:12,239
maintain the capital per effective

1096
00:45:09,079 --> 00:45:13,720
worker constant then I need to First

1097
00:45:12,239 --> 00:45:16,318
make up for the depreciation of the

1098
00:45:13,719 --> 00:45:18,838
stock of capital that's I have to

1099
00:45:16,318 --> 00:45:20,039
stabilize the numerator but then I have

1100
00:45:18,838 --> 00:45:21,599
to take into account that the

1101
00:45:20,039 --> 00:45:23,000
denominator is growing for two reasons

1102
00:45:21,599 --> 00:45:24,760
because population is growing and

1103
00:45:23,000 --> 00:45:26,400
because technology is growing and in

1104
00:45:24,760 --> 00:45:28,960
order to maintain the ratio constant I'm

1105
00:45:26,400 --> 00:45:30,838
going to have to investment so so to

1106
00:45:28,960 --> 00:45:33,519
maintain that ratio constant and that's

1107
00:45:30,838 --> 00:45:36,558
the reason now we

1108
00:45:33,519 --> 00:45:41,679
have this this line here rotates even

1109
00:45:36,559 --> 00:45:41,680
further and we get Delta plus GA plus GN

1110
00:45:42,280 --> 00:45:46,079
okay and you should play with these

1111
00:45:44,159 --> 00:45:50,558
things what happen in this diagram if I

1112
00:45:46,079 --> 00:45:50,559
you know if I increase GA or stuff like

1113
00:45:51,318 --> 00:45:55,800
that and notice that here now still you

1114
00:45:54,199 --> 00:45:57,558
have a steady state but it's a steady

1115
00:45:55,800 --> 00:45:59,839
state in the space of output per

1116
00:45:57,559 --> 00:46:02,760
effective worker in capital per

1117
00:45:59,838 --> 00:46:04,558
effective worker that means for example

1118
00:46:02,760 --> 00:46:07,400
that so that means that these quantities

1119
00:46:04,559 --> 00:46:09,720
are not growing in the stady state but

1120
00:46:07,400 --> 00:46:12,358
output will be growing at which rate in

1121
00:46:09,719 --> 00:46:15,399
the stady state in any state state here

1122
00:46:12,358 --> 00:46:15,400
what is the rate of growth of

1123
00:46:23,880 --> 00:46:28,480
output if output Over N is constant in

1124
00:46:26,880 --> 00:46:31,720
in the today

1125
00:46:28,480 --> 00:46:33,199
State how can that happen output has to

1126
00:46:31,719 --> 00:46:34,318
be growing at which rate at the same

1127
00:46:33,199 --> 00:46:39,239
rate as the

1128
00:46:34,318 --> 00:46:39,239
denominator so it's GA plus

1129
00:46:39,960 --> 00:46:45,639
GN what about that's a tricker question

1130
00:46:43,199 --> 00:46:48,439
what happens to Output per person in

1131
00:46:45,639 --> 00:46:51,759
this stady state what rate is it growing

1132
00:46:48,440 --> 00:46:51,760
at output per

1133
00:46:52,280 --> 00:46:58,519
person sorry somebody said the right

1134
00:46:54,440 --> 00:47:00,480
thing but ga exactly I want to keep this

1135
00:46:58,519 --> 00:47:03,119
ratio constant I'm asking the question

1136
00:47:00,480 --> 00:47:04,599
at which Pace does this need to rise in

1137
00:47:03,119 --> 00:47:08,720
order to maintain this constant well at

1138
00:47:04,599 --> 00:47:08,720
the same rate as a is growing

1139
00:47:09,119 --> 00:47:13,240
good here we also did we asked the

1140
00:47:11,719 --> 00:47:14,838
question well could it be that here if

1141
00:47:13,239 --> 00:47:16,479
we change the saving rate we get some

1142
00:47:14,838 --> 00:47:18,119
extra kick in the long run and the

1143
00:47:16,480 --> 00:47:18,960
answer is no for the same logic as we

1144
00:47:18,119 --> 00:47:21,480
had before you're going to get

1145
00:47:18,960 --> 00:47:22,760
transitional growth but you're

1146
00:47:21,480 --> 00:47:24,199
eventually you're going to convert to a

1147
00:47:22,760 --> 00:47:25,520
stady state and the rate of growth in

1148
00:47:24,199 --> 00:47:27,480
the long run is not going to be a

1149
00:47:25,519 --> 00:47:31,719
function of the saving rate is going to

1150
00:47:27,480 --> 00:47:34,719
be equal to GA plus GN

1151
00:47:31,719 --> 00:47:34,719
okay

1152
00:47:41,679 --> 00:47:46,519
good do here measuring technological

1153
00:47:44,599 --> 00:47:49,519
progress blah blah told you the story of

1154
00:47:46,519 --> 00:47:49,519
China

1155
00:47:50,440 --> 00:47:58,519
good oh we run out of time so let me

1156
00:47:55,358 --> 00:48:00,880
just say the the the last thing uh that

1157
00:47:58,519 --> 00:48:03,039
I want to say so the last thing we

1158
00:48:00,880 --> 00:48:06,000
discussed you say well what happen if

1159
00:48:03,039 --> 00:48:09,800
you add education to this and and try to

1160
00:48:06,000 --> 00:48:11,519
no I make what am I doing yeah I

1161
00:48:09,800 --> 00:48:13,440
expanded the model a little bit I had

1162
00:48:11,519 --> 00:48:16,000
education and said does this change

1163
00:48:13,440 --> 00:48:18,240
conclusions a lot I said no not really I

1164
00:48:16,000 --> 00:48:20,599
mean it it doesn't change the conclusion

1165
00:48:18,239 --> 00:48:22,879
with respect to the long run it affects

1166
00:48:20,599 --> 00:48:24,920
the level of output per capita if you

1167
00:48:22,880 --> 00:48:26,358
have more education but it want a che

1168
00:48:24,920 --> 00:48:29,880
affect the rate of growth in the long

1169
00:48:26,358 --> 00:48:34,400
run and the last point I made is that

1170
00:48:29,880 --> 00:48:36,640
look H in this model if you expand it

1171
00:48:34,400 --> 00:48:38,079
and you try to assume the technology the

1172
00:48:36,639 --> 00:48:39,358
technology is the same and the rate of

1173
00:48:38,079 --> 00:48:41,519
technological progress is the same

1174
00:48:39,358 --> 00:48:43,719
across the world you stick those

1175
00:48:41,519 --> 00:48:46,480
parameters in the mod population growth

1176
00:48:43,719 --> 00:48:48,239
education levels and all that then you

1177
00:48:46,480 --> 00:48:50,119
don't explain the amount of inequality

1178
00:48:48,239 --> 00:48:54,439
we see in the world the world will look

1179
00:48:50,119 --> 00:48:56,200
a lot flatter if if it was just H

1180
00:48:54,440 --> 00:48:57,440
differences in population growth

1181
00:48:56,199 --> 00:48:59,759
depreciation

1182
00:48:57,440 --> 00:49:01,880
education level and things like that but

1183
00:48:59,760 --> 00:49:05,520
with the same technology so if you want

1184
00:49:01,880 --> 00:49:08,440
to account for so this model the

1185
00:49:05,519 --> 00:49:10,400
mod doesn't produce enough

1186
00:49:08,440 --> 00:49:12,519
inequality in the world you need to add

1187
00:49:10,400 --> 00:49:14,280
something else that explains that we

1188
00:49:12,519 --> 00:49:15,480
have some countries in Africa that are

1189
00:49:14,280 --> 00:49:17,680
not growing that they're growing at a

1190
00:49:15,480 --> 00:49:19,358
very low levels rate and we said that

1191
00:49:17,679 --> 00:49:21,759
something else technology for whatever

1192
00:49:19,358 --> 00:49:25,078
reason it happens that there's a pocket

1193
00:49:21,760 --> 00:49:27,480
of countries that that seem to have a

1194
00:49:25,079 --> 00:49:30,519
lower sort of permanently lower level of

1195
00:49:27,480 --> 00:49:32,760
technology and both level and growth

1196
00:49:30,519 --> 00:49:34,679
rate and that's what explains sort of a

1197
00:49:32,760 --> 00:49:36,319
subset of countries that are sort of

1198
00:49:34,679 --> 00:49:38,279
seem stack they are not consistent with

1199
00:49:36,318 --> 00:49:39,440
this convergence type thing so that's

1200
00:49:38,280 --> 00:49:41,319
the reason it's called conditional

1201
00:49:39,440 --> 00:49:43,039
convergence those countries themselves

1202
00:49:41,318 --> 00:49:44,798
are converging to something but they're

1203
00:49:43,039 --> 00:49:47,239
converging to something much lower and

1204
00:49:44,798 --> 00:49:49,480
with much lower rate of growth than most

1205
00:49:47,239 --> 00:49:51,919
of the rest of the world but for the

1206
00:49:49,480 --> 00:49:52,880
final lesson is for the average country

1207
00:49:51,920 --> 00:49:55,639
on

1208
00:49:52,880 --> 00:49:57,680
average it's clear that poorer countries

1209
00:49:55,639 --> 00:49:59,838
grow faster than richer countries that's

1210
00:49:57,679 --> 00:50:01,000
a that's that's a dominant Force but you

1211
00:49:59,838 --> 00:50:03,599
need a little more if you want to

1212
00:50:01,000 --> 00:50:06,599
explain certain pockets of the world

1213
00:50:03,599 --> 00:50:06,599
okay