Business Cycle & Unemployment The economy in flux.

Business Cycle & Business Cycle & UnemploymentUnemployment

The economy in flux.The economy in flux.

Examining the Economy

Need to address two Time HorizonsLong-Run

Over the Course of Several Years, what is GDP’s Trend?

Short-RunWhat are GDP’s month-to-month or

quarter-to-quarter fluctuations?

A Closer Look at Real GDP

http://research.stlouisfed.org/fred2/fredgraph?chart_type=line&width=1000&height=600&preserve_ratio=true&s[1][id]=GDPC96

Real GDP: 1990 to Today

http://research.stlouisfed.org/fred2/fredgraph?chart_type=line&width=1000&height=600&preserve_ratio=true&s[1][id]=GDPC96

Terminology

Business CycleAlternating periods of economic growth

and contraction, measured by %GDP.Avg. Cycle last about 8 - 10 years.

Trend LineShows Long-run GDP trend.

Economic Growth Increase in national output measured by a

positive %GDP.

Phases of the Business Cycle

TimeG

DP

Real GDP

Trend4 Phases1.Peak

• Point where Real GDP reaches a local Max.

2.Recession• Period during which real

GDP declines• (2 consecutive Quarters)

3.Trough• Point where real GDP

reaches a local min.4.Recovery/Boom

• Period during which real GDP increases

Peak

Peak

Recession

Recovery

Business Cycle

Trough

Trough

Easier to look at Growth Rates

Growth rates can tell us the same info about the business cycle

1. Recovery/Boom Growth Rate > 0

2. Recession Growth Rate < 0

3. Peak Growth Rate = 0 &

moving from + to -

4. Trough Growth Rate = 0 &

moving from - to +

Time

Growth Rate

%GDPPeak

Trough

Recession

RecoveryRecovery

Growth Rate of Real GDP

Growth Rate: 1990 to today

Forecasting the Business Cycle

Takes time to collect data on GDP.1 month lag for initial quarterly report6 month or longer for revised estimates

We need to know faster:Use Indicators

Leading Indicators: Inventories, Avg. Work Week…Coincidental Indicators:Industrial Production, Non-Ag. Payroll

Lagging Indicators: Unemployment, Duration of UE, Prime Rate

Economic Goals

Maintain Growth TrendMinimize Size of Economic Fluctuations

Try to keep Business Cycle as close to Trend line as Possible

Why?Economy potentially experiences problems when

away from trend: Below Trend: Unemployment Concerns Above Trend: Inflation Concerns

Unemployment

Unemployment Rate: The % of people in the labor force who are

without jobs and are actively looking

Population Break Down

Working Age PopulationAnyone over 16 years old

Discouraged Worker: a person who wants work, would take a job if found, but has given up looking.

Not in Labor ForceArmed forces, household workers,

volunteers, students, retirees, disabled, Institutionalized workers,

Discouraged Workers

Civilian Labor Force

Member of working age population not listed to left

Unemployed

No job, but looking within last 2 weeks: New entrants, re-entrants,

lost or quit last job & laid-off

EmployedPaying job or self-employed

Employment Statistics

Unemployment Rate UE% = # of Unemployed/(# in Labor Force)

=UE / (LF)=UE / (UE + E)

Ex: Unemployed = 100; Employed = 900; UE%= 100/(100+900) = 100/1000=.1=10%

Labor Force Participation Rate (LFPR) LFPR = LF / Working Age Pop

Employment Ratio ER = Employed / Working Age Pop

Unemployment History

Avg. UE% = 5.6%

Employment Ratio History

Problems w/ Unemployment Measure

UE% Overstated because:No Black MarketsPeople lie to get Unemployment

CompensationUE% Understated because:

Discouraged WorkersUnderemployed: Part-time workers who

want full time work

To Fix UE need to know the cause

Types of Unemployment:1. Frictional Unemployment

People who are in between jobs or just entered the job market:

2. Seasonal Unemployment UE related to changing seasons: ex. Winter UE

in agriculture or construction Technically a sub category of frictional

To Fix UE need to know the cause

3. Structural Unemployment No longer have skill demanded by employers Mismatch of skills

4. Cyclical Unemployment Unemployment caused by economic

fluctuations. Caused by the cycle.

Unemployment: Natural? Good Sign?Frictional, Seasonal & Structural

We expect these 3 types of UE will always exist

Maybe even good:Frictional:

People leave jobs to find better ones, or graduate from school…Good.

Seasonal: Necessary for the type of work, so expected.

Structural: Implies new technology, more skills need. Good sign

for the economy, not for the individual

Full Employment

If we expect these types of UE, then we don’t worry when we have UE.

Full Employment ImpliesUE% = Seasonal% + Structural% +Frictional %NOTE: FULL EMPLOYMENT DOES NOT

MEAN UE = 0%

Natural Rate of Unemployment

The unemployment rate that exists at Full employment.

Estimated to be between 4% & 6%, so… aprox: 5%

Unemployment Goal

Keep Economy at Full EmploymentMaintain the Natural Rate of UEKeep Cyclical Unemployment = 0Stay near trend line

Cost of Unemployment

GDP Gap = Potential real GDP – actual Real GDP Potential Real GDP

What GDP would have been if we were at Full Employment

Actual Real GDP Real GDP actually produced

GDP Gap measures lost production caused by unemployment

“How Far Inside the PPC are we?”