teacherpress.ocps.net

Transcript teacherpress.ocps.net

UNIT TWO

Measurement of Economic Performance

P.S.

Supply and Demand: Four events that will shift demand (determinants): (Fads, population, change of income levels across society, price of other goods) Four events that will shift supply (determinants): (New technology, weather, price of inputs, and government regulation)

Government Regulation

• • Subsidies ▫ ▫ A payment from the government to a producer for each unit of good produced Lowers costs of production ▫ ▫ Increases supply Subsidies for farmers in United States Taxes ▫ ▫ ▫ Mandatory payment from the producer to the government for each unit produced Adds to costs of production Lowers supply

Unit Outline: Key Measures of Economic Performance • A. National Income Accounts ▫ Circular Flow • ▫ ▫ Real vs. Nominal GDP B. Inflation Measurement and Adjustment ▫ Price Indices ▫ ▫ Gross Domestic Product Components of Gross Domestic Product Nominal and real values • ▫ Costs of Inflation C. Unemployment ▫ Definition and Measurement ▫ ▫ Types of Unemployment Natural Rate of Employment

National Income Accounts

• I. The Circular Flow of the Economy ▫ Significance of the circular flow  Illustrates the interactions of the modern market economy

• •

National Income Accounts

The Five Contributors to the economic activity of a nation ▫ Households ▫ ▫ Firms Government Sector ▫ ▫ Foreign Sector Banking Sector The Two Markets ▫ ▫ Product Market Resource Market

National Income Accounts

• Households ▫ Demand goods and services in the product market ▫ ▫ Supply land, labor, capital in the resource market Pay taxes to the government ▫ ▫ Receive transfer payments and the provision of public goods from the government Demand imported goods from foreign nations

National Income Accounts

• Firms ▫ ▫ ▫ ▫ ▫ ▫ Produce many goods and services to households in the product market Demand productive resources from households in the factor (resource) market Pay taxes to the government Enjoy public goods and services provided by the government Sell output to foreign markets Demand resources from foreign households

National Income Accounts

•

Government Sector

▫ ▫ Collects taxes from households and firms Redistributes income through transfer payments and the provision of public goods  Transfer Payments  

Welfare Social Security

▫ 

Subsidies

Provides infrastructure and legal structure to protect private property rights (which creates an environment for the economy to function)

National Income Accounts

• The Foreign Sector ▫ ▫ Domestic households and firms demand goods, services, and productive resources from foreign markets Foreigners demand output from domestic markets   Imports from abroad are LEAKAGES because money leaves the domestic economy in order to purchase foreign goods Exports to foreign markets are INJECTIONS into the domestic economy since money enters the economy for exports.

National Income Accounts

• The Banking Sector ▫ Facilitates the flow of capital from households to firms   Money saved by households in banks is a LEAKAGE from the circular flow because it is not money being spent on goods and services Money lent to firms or households for investment is an injection into the circular flow because firms are spending on new capital which equals more employment and output  Bank as intermediary

The Five Sector Model

National Income Accounts

• • Injections ▫ ▫ ▫ Government – government spending more than collecting: education, infrastructure, legal system, judicial system Foreign – Exports Banking – Money borrowed from banks by households and firms Leakages ▫ ▫ ▫ Government - Taxes paid by households and firms Foreign – Imports Banking – Savings – not spent on output

National Income Accounts

• The Five Sector Model ▫ ▫ More realistic Illustrates leakages and injections

There are three key measures of economic performance: • GDP • Inflation • Unemployment

GDP

•

How it is measured

•

What are its components

•

Real vs. Nominal GDP

Measuring GDP

• GDP is the international standard for measuring the economic output and growth of countries. ▫ ▫ ▫ It is the market value of all final goods and services produced within a nation in a year “Final goods and services” are goods and services ready for consumption Intermediate goods – require further processing before they are counted as a final good  You count a car (final good), not steel (intermediate good)  You count a house (final good), not lumber (intermediate good)

NOT COUNTED IN GDP

• • • Second-hand sales ▫ You buy a new x-box from GameStop (YES) ▫ You buy a used x-box from GameStop (NO) Nonmarket Transactions ▫ Clogged drain  Call a plumber (YES)  Get a neighbor to help (NO) Underground Economy ▫ Pharmaceutical sales (YES) ▫ Drug trafficking (NO)

THREE METHODS FOR CALCULATING GDP • • • The Expenditure Approach ▫ Adds up spending by households, firms, government, and foreign trade The Income Approach ▫ Expenditures on GDP ultimately become income and can thus be used to figure out the GDP Output Approach ▫ Measures value of total output

The Expenditure Approach

GDP = Aggregate Spending, spending across the economy on output Spending on production is done in four sectors: Consumer Spending (C) Investment Spending (I) Government Spending (G) Net Exports (X – M) Exports minus imports AGGREGATE SPENDING (GDP)= C + I + G + (X-M)

Consumer Spending (C)

• • • • Largest component of GDP Spending done by consumers Purchase services ▫ ▫ Lawn mowing companies College degrees ▫ Haircuts Purchase goods ▫ ▫ Durable – Boat (Expected to last a year or more) Non-durable – Pasta (Goods consumed in under a year)

Investment Spending (I) • • Current spending in order to increase output or productivity later Three kinds ▫ New capital machinery purchased by firms  Fleet of U-Haul trucks ▫ ▫ New construction for firms or consumers  A new Banana Republic store  New residential houses Market value of the change in unsold inventories  New FORD in 2012, not bought by 2012 – appear in I as unsold inventory.  If it is sold in 2014, it is added into C and deducted from I

Government Spending (G)

• • At all levels, the government purchases final goods and services and invests in infrastructure ▫ ▫ ▫ Police cars Social workers Computers for the Pentagon ▫ Interpreters for visiting diplomats Government cash transfers do not count toward GDP

Net Exports (X-M)

• • Add all domestically produced goods purchased by foreign consumers (exports –X) but subtract any spending by our citizens on purchases of goods made within other nations (imports – M) Include dollars flowing into our economy minus dollars flowing out

The Second Approach: The Income Approach • • Measures GDP by recording the income of households on the resource side of the circular flow.

If all spending on goods and services creates revenue to the firms providing products, and the revenue earned goes toward paying households for the land, labor, and capital employed in production, then you can arrive at an accurate measurement of GDP by counting the income received by households during one year.

The Income Approach

• • Makes use of the fact that expenditures on GDP ultimately become income National Income: Sum of the income earned by the factors of production owned by a country’s citizens.

▫ Includes  Wages, salaries, and fringe benefits paid for labor services (largest component)   Rent paid for the use of land and buildings Interest paid for the use of money   Profits received for the use of capital resources.

W + R + I + P = GDP

The Output Approach

• • Measures total value of all final goods and services by calculating the value of the total output produced in different sectors of the economy The sectors include: ▫ Agriculture, forest, fishing, mining, utilities, construction, manufacturing, transportation, warehousing, wholesale, retail, information, education, professional and business services, healthcare, arts and entertainment, government, other services plus rest of the world plus national income plus capital consumption plus statistical adjustment = GDP

Before we move on . . .

• • • Personal Income (PI) ▫ Money income received by households before personal income taxes are subtracted Disposable Income (DI) ▫ Personal income less personal income taxes National income = National output

Other measurements . . .

• • Gross National Product (GNP) ▫ ▫ which is a measure of the final output of the citizens and businesses of a country, regardless of where in the world the output is produced.

GDP = GNP + net foreign factor income (the income from foreign sources located domestically minus the income of domestic sources located internationally) Net Domestic Product (NDP) ▫ GDP – depreciation; where depreciation accounts for the gradual wearing out of factories and equipment

Components of GDP

1. Consumer Spending (C) 2. Investment Spending (I) 3. Government Spending (G) 4. Net Exports (X – M) Exports minus imports

Components of GDP

GDP C I G (X-M)

Total (billions)

10,082 6987 1586 1858 -349

Per person in dollars

35375 24516 5565 6519 -1225

Percent of total

100 69 16 18 -3

GDP and its Components

Sales

Investment Government Purchases Net Exports Consumption

Quick Review

• A. National Income Accounts ▫ ▫ ▫ ▫ Circular Flow Gross Domestic Product - FINAL goods and services - Expenditure Approach C+I+G+ (X-M) = GDP - Income Approach W + R + I + P = GDP - Output Approach Components of Gross Domestic Product Real vs. Nominal GDP

Real vs. Nominal GDP

• • Nominal: Values the production of goods and services at current prices Real: Values the production of goods and services at constant prices

Real vs. Nominal

• • • Nominal GDP measures the value of a nation’s output produced in a year, expressed in the value of the prices charged for that year.

If the average price level of a nation’s output increases in a year, the nominal GDP could increase even if the actual amount of output does not change.

It would appear that GDP has increased when, in fact, the same number of goods and services were produced.

Nominal

• • Price increases from inflation could cause GDP to be overestimated, causing us to think the economy is doing better than it actually is. How do economists fix this?

Measuring Real GDP

• To determine the change in the real GDP, economists must adjust the nominal value of the nation’s output in a year based on any changes in the average price level of goods and services during that year. ▫ ▫ In the case of price level increasing (inflation): nominal GDP exaggerates the value of output compared to actual output.

In the case of the price level decreasing (deflation): nominal GDP underestimates the value of real output.

Nominal becoming Real GDP

GDP deflator (Price Index): Price of selected goods in current year/Price of selected goods in base year X 100 This measures the average price of a good. It is also known as the GDP Price Index.

Real GDP = nominal GDP/deflator or price index X 100

Called “deflator” because the nominal GDP is usually overstated because of inflation.

Converting Nominal to Real • Real GDP = nominal 20xx/GDP deflator x 100

Converting nominal to real

Year

2005 2006 2007 2008 2009

Nominal GDP

12, 683.4

13, 398.9

14, 061.8

14, 369.1

14, 119.0

GDP Deflator

100 103.25

106.29

108.61

109.61

Real GDP

12,638.4

12,977.1

13, 229.6

13,229.9

12, 881.1

GDP Application

• • • • • • • GDP is 10 million, consumer spending is 6 million, government spending is 3 million, exports are 2 million, and imports are 3 million. How much was spent for investments?

0 million 1 million 2 million 3 million 4 million 5 million

GDP Application

• • If Real GDP = 200 billion and the price index = 200, Nominal GDP is 4 billion • • 400 billion 200 billion • 2 billion • Impossible to determine since the base year is not given

Real GDP = nominal GDP/price index X 100

Per Capita GDP

• • • Real GDP adjusts for price changes, what adjusts for population changes?

To account for the average income of a nation, real GDP is divided by the population to find the per capita GDP.

Per capita GDP = real GDP/population

GDP does not Equal the Standard of Living • • GDP 2011 ▫ ▫ US 15,090,000 China 7,298, 000 ▫ Italy 2,199, 000 What is the population?

▫ ▫ ▫ US 311,800,000 China 1,347,350,000 Italy 59,464,000

Real GDP per capita

• • Gives us a better picture of how productive a nation is on a per capita basis.

But it does not tell us anything about the income distribution within a nation.

How do we measure growth?

• You calculate the rate of change . . . • • Growth rate = Real GDP in period 2 – Real GDP in period 1/Real GDP in period 1 X 100

The Economic Downturn: The Final Number Illustrates Stagnation (2008) and Recession (2009)

Year

2006 2007 2008 2009

Real GDP

12, 976.2

13,228.9

13,228.8

12, 880.6

Real GDP Growth Rate

13,228.9-12,976.2/12,976.2 X 100 = 1.95% 13,228.8-13,228.9/13,228.9 X 100 = 0.0% 12,880.6-13,228.8/13,228.8 X 100 = -2.63%

Before we leave GDP

• • • • • • • • • National economies suffer leakages and enjoy injections Tally of FINAL goods and services produced in a nation in a year GNP = Tally of all final goods and services produced by a nation’s citizens in a year. GDP = C + I + G + (x-m) GDP deflator = price of good current year/ price of good base year X 100 Real GDP = Nominal GDP/Price Index X 100 GDP Growth = REAL GDP P2 – REAL GDP P1/Real GDP P1 X 100 You must focus on real, not nominal, GDP GDP does not necessarily determine the standard of living.

Inflation Measurement and Adjustment • • Inflation – an increase in the average price level of a nation’s output over time. Inflation rate can be determined using a price index • Deflation – a decrease in the average price level of a nation’s output over time

Why measure inflation????

• To keep track of the overall cost of living for a nation.

How is it measured?

• The Consumer Price Index (CPI) – a measure of the overall cost of the goods and services bought by typical consumer

How do you establish the CPI?

• 1. Fix the basket. (Labor Department) • 2. Find the prices over time (2010, 2011, 2012). • 3. Compute the basket’s cost (Count prices, keep quantities constant) • 4. Choose a base year and compute the index.

• 5. Compute inflation rate.

Fix Basket

• Establish the basket of goods to be calculated • Our example: a loaf of bread

Find the price over time

• A loaf of bread ▫ ▫ ▫

2010 – $1 2011 - $2 2012 - $3

Compute the cost of the basket

• • • • • • 2010 $1 X 10 = $10 2011 $1.50 X 10 = $15.00

2012 $ 2.50 X 10 = $25.00

• **** The quantity needs to be fixed because we are focused on PRICE changes

Choose One Year as a Base Year to compute Consumer Price Index • • 2010 can be our base year CPI = (Price in Period X/Period 1) x 100 • • • 2010 (10/10) x 100 = 100 2011 (15/10) x 100 = 150 2012 (25/10) x 100 = 250

Use the CPI to compute the Inflation rate from previous year • Inflation rate in year 2 = • (CPI in Year 2 - CPI in Year 1/CPI Year 1) x 100 • • 2011 = (150 – 100/100) x 100 = 50% 2012 = (250-150/150) x 100 = 66% • In this example, inflation rate is 50% in 2011 and 66% in 2012.

Application

• What is the inflation rate in 2012 if: Your basket of goods cost $200 in 2010, $225 in 2011, and $230 in 2012 (2012 is your base year)?

a. 112.5% b. 115% c. 2.2% d. 3% e. 23%

The Goal of the Consumer Price Index

• • To measure changes in the cost of living How much incomes must rise to maintain a constant standard of living

Three Problems with the CPI

• • • Substitution Bias ▫ If an item becomes more expensive, most of us will substitute with another item (BLS looks at fixed basket from a base year) Introduction of new goods ▫ CPI does not catch these the first or even first few years out (VCR – 3 years) Unmeasured quality change ▫ A good is often measured against itself even if the newer model is of higher/lower quality

Another example . . . What is the inflation rate for August? September?

Good or Service Price in July Price in Aug Price in Sept

Pizza Haircuts $10 $20 $10.50

$19 $10.50

$18 Wine C. Price Index $8 Total Basket Price $38 (38/38) x 100 = 100 $10 39.50

$10 $38.50

(39.5/38) x 100 = 104 (38.5/38) x 100 = 101.3

Dollar Figures from Different Times

• • • CPI = 15.2 for 1931 CPI = 177 for 2001 Babe Ruth made $80,000 in 1931 • (CPI 2001/CPI 1931) x 80,000 = $931,579

Real and Nominal Interest Rates

• Nominal Interest Rate ▫ Interest rate as usually reported without a correction for the effects of inflation • Real Interest Rate ▫ The interest rate corrected for the price of inflation ▫ `

Example

• I deposit $1000 in my bank account that pays an annual interest rate of 10%.

• After one year, I have $100 in interest • I withdraw my $1100. Am I $100 dollars richer?

• • Yes – I do have $100 more dollars. (Nominal) No – In that year, inflation rose 4%. My purchasing power increased by 6, not 10, percent. (Real)

The Relationship between Nominal and Real . . . • Real interest rate = nominal interest rate – inflation rate.

Application

• Henry Ford paid his workers $5 a day in 1914. If the CPI was 10 in 1914 and 177 in 2001, how much is the paycheck worth? $88.50

• You deposit $1000 in bank with annual interest rate of 10%. At the end of the year, you have $1100. If the inflation rate increased by 3% that year. What are your nominal and real interest rates?

The Consumer Price Index (Our basket)

• Weighted categories ▫ Must add up to 100 ▫ The weight of the category reflects relative importance ▫ This is to reflect real life  Imagine the prices of feathers and milk fluctuates  Which one will affect you more?

Category

Food and beverages Housing Apparel Transportation Medical care Recreation Education and communication Other goods and services Total

Weight

14.795

41.96

3.695

16.685

6.513

6.437

6.434

3.483

100

The Costs of Inflation

Shoeleather Costs Menu Costs Relative-Price Variability and the Misallocation of Resources Inflation-Induced Tax Distortions Confusion and Inconvenience Arbitrary Redistributions of Wealth

* Large costs during hyperinflation but the size of these costs during times of moderate inflation is not clear.

Shoeleather Costs

• Resources wasted when inflation encourages people to reduce their money holdings ▫ By pulling money out of the bank to purchase goods ▫ By converting their currency into another currency • “Shoeleather” because of the leather worn out going back and forth from the bank.

Menu Costs

• The cost of changing prices ▫ ▫ ▫ Typical firm changes prices annually  Infrequent because it costs money to change prices     Deciding Lists and catalogs Advertising new prices Dealing with annoyed customers Low inflation  Infrequent menu costs Hyperinflation  Prices change weekly or daily  Menu costs increase

Relative-Price Variability and Misallocation of Resources • • Market economies rely on relative price to allocate scarce resources When inflation distorts relative prices ▫ consumer decisions are distorted ▫ markets are less able to allocate resources to their best use

• •

Inflation-Induced Tax Distortions

Inflation tends to raise the tax burden on income earned from savings ▫ CAPITAL GAINS  PROFITS MADE BY SELLING AN ASSET FOR MORE THAN ITS PURCHASE PRICE  1980 – BOUGHT APPLE STOCK FOR $10    2000 – SOLD FOR $50 Capital gain equals $40 which is included in your 2000 income The $10 you invested in 1980 is equal to $20 in 2000 so when you sell your stock, you have a REAL gain of only $30 dollars, not $40 – you are still taxed on the $40 ▫ INTEREST INCOME  TAXED ON NOMINAL INTEREST RATE ON YOUR SAVINGS HIGHER INFLATION DISCOURAGES PEOPLE FROM SAVING

Confusion and Inconvenience

• • It is difficult to calculate the costs of confusion and inconvenience due to inflation One way that inflation causes confusion. . . ▫ Inflation makes investors less able to discern successful firms from unsuccessful firms

Unexpected Inflation: Arbitrary Redistribution of Wealth

• • Sudden inflation can redistribute wealth in a way that has nothing to do with merit or need ▫ Sally takes out a student loan for $20,000 at a 7% interest rate to attend UF ▫ ▫ ▫ After her debt has compounded for 10 years, Sally will owe $40,000 Hyperinflation – the debt is not burdensome Deflation – the debt feels like much more than $40,000 Inflation can redistribute wealth between debtors and creditors

Before we leave GDP + Inflation . . .

• Remember . . . ▫ ▫ ▫ ▫ ▫ ▫ ▫ GDP is the best single measure of a nation’s economy The expenditure approach is used more than any other GDP measurement CPI is a fixed number for every year Inflation rate is calculated using the previous period

Real GDP = Nominal GDP/Price Index X 100 Real interest rate = nominal interest rate – inflation rate.

There are 6 major costs of inflation

Inflationary Spiral

• • • • High inflation – firms and households will spend, rather than save, their money ▫ Why?

More spending contributes to more inflation Over time, this will lead to workers wanting higher wages ▫ Which further contributes to inflation An inflationary spiral takes shape

Higher prices = more spending= higher wages = higher prices

Keeping Inflation Under Control

• • Banks and governments want inflation to be about 2 – 3 percent You do not want deflation or risk an inflationary spiral

Macroeconomic Policy

Tools Goals

• • • •

Economic Growth Low Inflation Low Unemployment Sustainable Trade Balance

• •

Fiscal Policy

▫ Taxing and spending of government

Monetary Policy

▫ Control of the Federal Reserve over interest rates and the money supply

Unemployment

A Third Way to Measure Economic Well Being

GDP (most accurate) Inflation (Cost of Living)

Unemployment

Key Terms

• • • Unemployment – find, a job actively seeking, but unable to Employment – to have a paid job, either part time or full time, of any type Unemployment rate – the percentage of the labor force that is unemployed

How does the Dept. of Labor classify the Labor Force?

•

Labor Force – non-institutionalized population of a nation between 16 – 64 that are either employed or unemployed

▫ ▫ ▫ ▫ ▫ ▫ A senior in high school who works at Publix 10 hours a week A full-time teacher A factory worker whose plant closed and who is applying for jobs at other factories A recent college grad who is applying for jobs A family farm worker A custodian whose school is closed down temporarily because of a hurricane

Not in the Labor Force

• • • • • • •

Stay-at-home mom Stay-at-home dad College grad who volunteers at the homeless shelter A discouraged worker who has given up looking for a job A businessman who quits his job to return to school Prisoners Deployed military forces

Measuring Unemployment

Unemployment rate = (# of unemployed/# in labor force ) X 100 In U.S. – there are 14 million people who are unemployed - there are 126 million people who have a part or full-time job

What is the unemployment rate?

Rate = (14 million/140 million) x 100 Unemployment rate would be 10%

Unemployment

• Rises during recessions in the business cycle • Falls during periods of economic growth in the business cycle

Unemployment rate

• Indicates economic well-being ▫ ▫ Illustrates how a society uses its available labor resources Reveals how closely society is approaching its potential output (PPC)

Shortcomings of Unemployment Rate as a Measuring Stick • •

Does not include discouraged workers

▫ ▫ Workers who have given up looking for a job Rate will understate how bad things are, especially during a long recession

Labor Force Participation Rate (LFPR) falls during a recession

▫ LFPR measures the percentage of the adult population in a country that is either employed or unemployed

LFPR

LFPR = Labor force # of people between 16 and 64

Question of the Day, October 29 + 30

If a worker’s nominal wage rate increases from $10 to $12 per hour and at the same time the general price level increases by 10 percent, the worker’s real wage has

Approximately decreased by 10% Approximately decreased by 20% Approximately increased by 10% Approximately increased by 20% e.

Not changed

Which of the following would cause the official unemployment rate to understate the problem of unemployment?

Workers receiving unemployment compensation Cyclically unemployed workers Discouraged workers Recent college graduates looking for work Retirees

Quick Review Labor Force = Number of Employed + Number of Unemployed Unemployment rate = (number of employed/labor force) X 100 LFPR = (labor force/adult population) X 100 Discouraged Workers = individuals who would like to work but have given up looking for a job

Natural Rate of Unemployment

• The normal rate of unemployment around which the unemployment rate fluctuates • Healthy rate • In U.S., the natural rate is around 5.5%

Types of Unemployment

Frictional Structural Cyclical

Frictional Unemployment

• Someone who is “in between jobs” or looking for his/her first job but has employable skills - Lawyer who moved from Miami to Orlando and is looking for a job - College grad looking for a job in her discipline - Nurse who quits his job to find better pay at another hospital *Worker and firm have yet to find one another *Individuals possess skills that are in demand *Considered natural unemployment because it is evidence of a healthy economy (usually short term unemployment)

Structural Unemployment

• Workers lose their job to the changing structure of the economy - Their skills are no longer needed - Factory worker laid off because a machine has taken the job - Manufacturer whose job has moved to China - Often due to improvements in technology or globalization of workforce Usually long-term unemployment

Ways to reduce structural unemployment

• • • Re-training of unemployed workers Education Wage flexibility •

Structural Unemployment

▫ Like frictional unemployment, structural unemployment is considered natural unemployment since it is evidence of a healthy economy wherein the economy is expanding

Cyclical Unemployment

• • Results from a fall in total demand for a nation’s output Associated with a recession or a contraction phase of a nation’s business cycle - Store clerk who is laid off because of a drop in sales - Hairstylist whose business fails because incomes across the economy are down

Caused because of a larger decrease in demand

Ways to Reduce Cyclical Unemployment

• • • •

Cutting Taxes for Households

▫ Increase consumption which increases demand for labor

Increase G spending

▫ Creates demand for g + s, putting workers back to work

Lowering interest rates

▫ Stimulates new investment in capital by firms, increasing demand for labor

Depreciate the nation’s currency

▫ Increase demand for exports from abroad and for workers to produce those exports

Natural Rate of Unemployment (NRU)

•

NRU prevails when an economy is producing at its full-employment level

•

Full employment when the economy experiences only frictional and structural

October 31 + November 1

An industry historically used employees with specific skills. If this industry experiences technological advances that require new skills, there will most likely be a.

Cyclical unemployment Frictional unemployment Seasonal unemployment Structural unemployment e.

No change in unemployment Gross domestic product has been criticized as a measure of well-being because it fails to take into account which of the following a.

The distribution of income The value of services The value of intermediate goods The value of financial transactions and sales of used items The value of government services

Natural Rate of Unemployment (NRU)

• NRU prevails when an economy is producing at its full employment level • Government intervention to reduce cyclical unemployment ▫ Cutting taxes, government spending, lower inflation rates, and depreciating nation’s currency ▫ Examples of expansionary policies

Which types of unemployment affect the unemployment rate? • All three types of unemployment • An economy producing at full employment experiences only frictional and structural unemployment.

• When the U.S. economy is healthy, somewhere around 5% of the labor force should be unemployed.

Unemployment in a Recession

• Unemployment includes frictional, structural, and cyclical • Greater unemployment rate than the natural rate of unemployment • Between 2009 and 2010, U.S. unemployment rate hit 10% - double the natural rate ▫ INDICATED THAT 5% OF UNEMPLOYED WERE CYCLICALLY UNEMPLOYED

The NRU

• Stable within a nation within a set period of time • Can vary from nation to nation and from time period to time period • Exists when a nation is at full employment

Reducing Unemployment

• • • • • Training programs that match skilled workers with jobs Job training programs to help the structurally unemployed Reducing unemployment benefits Reducing trade union power Reducing the minimum wage

Why is any rate of unemployment a good thing?

• Unemployed workers (frictional and structural) shows that the economy has room to grow or is in the midst of growth.

The Costs of Unemployment

• Individual Costs ▫ ▫ ▫ ▫ Decreased household income Decreased purchasing power Increased levels of psychological and physical illness Unemployment leads to more mental illness and increased suicide rates

The Costs of Unemployment

• Social Costs ▫ ▫ ▫ ▫ Downward pressure on wages for the employed Pay cuts or risk of losing job Increased poverty and crime Transformation of traditional societies  Migration out of smaller towns and agricultural communities

The Costs of Unemployment

• Economic Costs ▫ Lower level of aggregate demand  Unemployed buy less leading to more unemployment ▫ ▫ ▫ ▫ Underutilization of nation’s resources  Increased gap between output and potential output “Brain drain”  Workers may choose to emigrate from nation’s with high unemployment Turn toward protectionism and isolation  To preserve jobs  Inhibit trade Increased budget deficits  Lower taxes + Government spending

The Costs

• Because of the individual, social, and economic costs, governments focus on keeping the unemployment levels in their nation at the natural rate.

Question of the Day: 11.2 + 11.5

The NRU for the nation of Orbot is 3.5 percent. Their labor force is 1000 people and 60 of those are currently unemployed. Which of the following is most likely true?

The unemployment rate is 6 percent, all of which are structurally or frictionally unemployed.

The unemployment rate is 9.5 percent.

The unemployment rate is 6 percent and 2.5 percent of these are cyclically unemployed.

Orbot is at the trough of a recession.

The Roller Coaster

• The Four Phases of the Business Cycle ▫ ▫ ▫ ▫ Trough Expansion Peak Recession

PPI

• A Producer Price Index (PPI) measures average changes in prices received by domestic producers for their output.