Answer to Question #283536 in Macroeconomics for kika

Question

1. The Case in Point titled “Some Reflections on the 1970s” describes the changes in inflation and in unemployment in 1970 and 1971 as a watershed development for macroeconomic thought. Why was an increase in unemployment such a significant event? 

Answer 1

The first half of the 1970s turned out to be a watershed for the development of the industrial economic model. The 1973 "oil shock" was the impetus for its radical restructuring. The unsuccessful participation of Egypt and Syria in the second Arab-Israeli war forced the Arab countries that held leading positions in the Organization of Petroleum Exporting Countries (OPEC) to use their position to put economic pressure on the Western powers. In October 1973, OPEC made the unprecedented decision to raise oil prices from $3 to $11.65 per barrel (159 cu. dm). The 1973 "oil shock" put an end to the carefree "prosperity" of 1950-1960.

Not only did the sharp rise in oil prices lead to enormous losses, a drop in industrial production and a decline in investment, but it also necessitated a technological reorientation of the entire industrial base. 

Less than a year after the "oil shock," Western economies were plunged into an overproduction crisis-the first classic crisis in the entire postwar period. Rising production costs associated with higher oil prices drove up production costs in almost all sectors of the economy. When the inventories available in the fall of 1973 ran out, wholesale and retail prices began to skyrocket. The resulting decline in effective demand, coupled with the deterioration of the investment climate, led to a decline in production during the nine months of 1974.

The peculiar feature of the crisis in 1974 was a rapid worsening of the state of affairs in the advanced, science- and capital-intensive industries. The enterprises and companies associated with the world-famous major corporations and banks were hit. Therefore, the crisis of 1974 did not become a simple filter, filtering out the least competitive manufacturers. It created a general long-term stagnation of the industrial production system.

In the 1970s, a period of stagflation – or slow growth coupled with rapidly rising prices - raised questions about the supposed relationship between unemployment and inflation.