Permanence in Aggregate Supply

In the terms of the Reasonable Dialog, the Policy Ineffectiveness Proposition certainly does undercut any proposal for government policy to support increased employment -- if the Policy Ineffectiveness Proposition is sound. To be sound it has to fit the facts. There are some problems in that area -- and if the Policy Ineffectiveness Proposition doesn't fit the facts, it would itself be undercut; and the arguments for an active government policy would regain at least some of their credibility.

To see what the problem is, we need to look back at Figures 2 and 3. Here are the important parts from the two figures. They are the SAS curves, each with a sequence of dots showing the price level and production for five successive years, in each case.

Figure 6: Two Sequences of Prices and Production

Recall, the series marked A is the "unbiased" one, which we associated with Rational Expectations. The series marked B was seen as biased, relative to the LAS. Looking carefully at the two series Y1, ... Y5, we can see another difference between them. In series B, the price-and-production dot for each year is close to the one for the year before. That is, Y2 is close to Y1, Y3 fairly close to Y2, Y4 close to Y3, and so on. We express this by saying that in series A, production has a high degree of permanence.

Permanent: In a series of observations of an economic measure over time, the measure is said to be relatively highly permanent if the measure for one period is relatively close to the measure for the previous period, with a high probability.

Another way to put it is that when the "permanent" series is above its long term average in one year, it is much more likely to be above its average in the next year than not. Eventually it will return toward the long term average, but not right away. If it is below its average in one year, it is much more likely to be below its average in the next year than not. By contrast, in the series labeled A, production in one year can be close to production in the previous year, or far from it, with about equal probability. This series has very little permanence.

The opposite of "permanent" is "transitory."

Transitory: In a series of observations of an economic measure over time, the measure is said to be relatively highly transitory if the measure for one period is independent of the measure for the previous period, but close to a stable average value with a high probability.

Problems