Chapter 20: LR and SR Concerns Growth, Productivity, Unemployment, and Inflation.

Chapter 20: LR and Chapter 20: LR and SR Concerns SR Concerns

Growth, Productivity, Growth, Productivity, Unemployment, and Inflation Unemployment, and Inflation

Business Cycles Business Cycles

The economy naturally fluctuates The economy naturally fluctuates in the short run .in the short run .

Business CyclesBusiness Cycles

During times of During times of expansionexpansion – GDP is – GDP is growinggrowing– Unemployment fallsUnemployment falls– Sometimes inflation risesSometimes inflation rises

During times of During times of contraction contraction – GDP is – GDP is fallingfalling– Unemployment risesUnemployment rises– Sometimes inflation falls (could rise, Sometimes inflation falls (could rise,

though and cause stagflation)though and cause stagflation)

UnemploymentUnemployment

EmployedEmployed = any person 16 or = any person 16 or older whoolder who– Works for pay (for someone else or Works for pay (for someone else or

in own business for 1 or more hours in own business for 1 or more hours per week)per week)

– Works without pay for 15 or more Works without pay for 15 or more hours per week in a family businesshours per week in a family business

– Has a job but has been temporarily Has a job but has been temporarily absent, with or without pay absent, with or without pay

UnemploymentUnemployment

UnemployedUnemployed = a person 16 or = a person 16 or older who is not working, is older who is not working, is available for work, and has made available for work, and has made efforts to find work during the last efforts to find work during the last 4 weeks4 weeks

Unemployment Unemployment

Not in the labor force = a person Not in the labor force = a person not looking for work, because not looking for work, because he/she does not want a job or has he/she does not want a job or has given up lookinggiven up looking

Labor Force = # people employed + Labor Force = # people employed +

# people unemployed # people unemployed Population = labor force + not in Population = labor force + not in

labor forcelabor force

UnemploymentUnemployment

Unemployment rate = Unemployment rate =

unemployedunemployed

employed + unemp.employed + unemp.

Labor force participation rate =Labor force participation rate =

labor forcelabor force

population over age 16population over age 16

Unemployment Unemployment

Discouraged-Worker EffectDiscouraged-Worker Effect – Discouraged workers are people who Discouraged workers are people who

have have stopped lookingstopped looking for work (so for work (so they don’t count as unemployed)they don’t count as unemployed)

– Result: Result: ↓↓ in the measured in the measured unemployment rate unemployment rate

– So at any given time, we might have So at any given time, we might have more people who actually want a job more people who actually want a job than is measured by the than is measured by the unemployment rateunemployment rate

UnemploymentUnemployment

Discouraged workers make up Discouraged workers make up about 1 percent of the labor forceabout 1 percent of the labor force– During recessions, it can be higherDuring recessions, it can be higher

Should we add this to the Should we add this to the unemployment rate to get a more unemployment rate to get a more accurate number?accurate number?

Types of Unemployment: Types of Unemployment: Some unemployment is Some unemployment is inevitable!inevitable! Frictional unemploymentFrictional unemployment – –

usually short-term issues, like usually short-term issues, like people changing jobs, graduating people changing jobs, graduating from college and looking for a job, from college and looking for a job, people moving, etc.people moving, etc.– This type of unemployment will This type of unemployment will

ALWAYS occur and is normal!ALWAYS occur and is normal!

Types of Types of UnemploymentUnemployment Structural UnemploymentStructural Unemployment – –

unemployment that results from the unemployment that results from the changing structure of the economychanging structure of the economy– Ex: people’s skills do not match the skills Ex: people’s skills do not match the skills

necessary for jobsnecessary for jobs– Can be caused by:Can be caused by:

new technologynew technology new resourcesnew resources changes in consumer demandchanges in consumer demand globalizationglobalization lack of education lack of education

Types of Types of UnemploymentUnemployment Natural rate of unemploymentNatural rate of unemployment

– the unemployment that occurs – the unemployment that occurs as a normal part of a functioning as a normal part of a functioning economy. economy.

Sometimes it’s the sum of Sometimes it’s the sum of frictional + structural frictional + structural unemployment (I would add unemployment (I would add seasonal unemployment, too.)seasonal unemployment, too.)

Types of Types of Unemployment Unemployment Cyclical unemploymentCyclical unemployment – the – the

increase in unemployment that increase in unemployment that occurs during recessions and occurs during recessions and depressions (corresponds with the depressions (corresponds with the business business cyclecycle) )

During a recession – firms produce During a recession – firms produce less b/c demand for g&s is lower, so less b/c demand for g&s is lower, so they need fewer workers (lay offs)they need fewer workers (lay offs)

Costs of Costs of unemployment unemployment Social consequences of Social consequences of

unemploymentunemployment– Effects are unevenly distributed among Effects are unevenly distributed among

populationpopulation– Prolonged unemployment during severe Prolonged unemployment during severe

recessions (depressions) can also cause recessions (depressions) can also cause anxiety, depression, physical and anxiety, depression, physical and psychological health issues, drug and psychological health issues, drug and alcohol abuse, and suicidealcohol abuse, and suicide

Benefits of Benefits of recessions???recessions??? Recessions usually slow the rate of Recessions usually slow the rate of

inflationinflation Some argue that recessions increase Some argue that recessions increase

efficiency by driving the least efficient efficiency by driving the least efficient firms out of business and forcing firms out of business and forcing surviving firms to improvesurviving firms to improve

Recessions cause a decrease in Recessions cause a decrease in demand for imports (improves balance demand for imports (improves balance of trade…more later)of trade…more later)

Quick review from Quick review from today…today… What type of unemployment?What type of unemployment?

– Giant Eagle lays off 3 workers b/c of 3 new Giant Eagle lays off 3 workers b/c of 3 new self-checkout lanes.self-checkout lanes.

– Mrs. Eskra decides to change her career Mrs. Eskra decides to change her career from teacher to Economist and it’s taking from teacher to Economist and it’s taking a little while for her to find a new job in a little while for her to find a new job in that field.that field.

– A friend gets laid off from her job at the A friend gets laid off from her job at the mall. The company says that they are just mall. The company says that they are just not making enough money during the not making enough money during the recession to keep her hired. recession to keep her hired.

Quick Review…Quick Review…

Which type of unemployment is Which type of unemployment is the most concerning to the the most concerning to the government?government?

Why are the other two types of Why are the other two types of unemployment not as concerning?unemployment not as concerning?

Why would the government want Why would the government want to know to know which which types of types of unemployment are present?unemployment are present?

HomeworkHomework

Take notes on pages 447-452 Take notes on pages 447-452 (End of chapter) and make sure (End of chapter) and make sure your notes are complete from in your notes are complete from in class to cover the beginning of class to cover the beginning of the chapter as well!the chapter as well!

InflationInflation

Inflation – an increase in the Inflation – an increase in the overall overall price levelprice level– Happens when many prices increase Happens when many prices increase

simultaneously simultaneously Deflation – decrease in the overall Deflation – decrease in the overall

price levelprice level

How do we measure How do we measure inflation?inflation? Economists use price Economists use price indexes indexes – –

measurements that show how the measurements that show how the average price of a standard group average price of a standard group of goods changes over time of goods changes over time

The most common is the The most common is the Consumer Price IndexConsumer Price Index ( (CPICPI))

The CPIThe CPI

CPI uses a bundle of goods meant CPI uses a bundle of goods meant to represent the “market basket” to represent the “market basket” purchased monthly by the typical purchased monthly by the typical urban consumerurban consumer

It differs from the GDP deflator, It differs from the GDP deflator, which pertains to all goods and which pertains to all goods and services in the economy (not just services in the economy (not just consumer)consumer)

CPI Market BasketCPI Market Basket

Housing, 40.9

Apparel, 4.2Transportation, 17.3

Medical Care, 6

Recreation, 5.9

Education and Communication, 5.8

Other g&s, 4.3

Food and beverages, 15.6 Housing

Apparel

Transportation

Medical Care

Recreation

Education andCommunication

Other g&s

Food and beverages

CPI Market BasketCPI Market Basket

Category ExamplesFood and drinks Cereals, coffee, chicken, milk,

restaurant meals

Housing Rent, homeowners’ costs, fuel oil

Apparel and upkeep Men’s shirts, women’s dresses, jewelry

Transportation Airfares, new and used cars, gasoline, auto insurance

Medical care Prescription medicines, eye care, physicians’ services

Entertainment Newspapers, toys, musical instruments

Education and communication Tuition, postage, telephone services, computers

Other goods and services Haircuts, cosmetics, bank fees

The CPIThe CPI

The CPI may overstate changes in the The CPI may overstate changes in the cost of living because it does not cost of living because it does not account for the fact that people account for the fact that people substitute away from more expensive substitute away from more expensive items over time and buy cheaper items over time and buy cheaper goods.goods.– Ex: Groceries have recently become a lot Ex: Groceries have recently become a lot

more expensive, so more people are more expensive, so more people are choosing to purchase more food items at choosing to purchase more food items at WalMart or more generic brands. WalMart or more generic brands.

PPIsPPIs

Producer Price Indexes (PPIs) include Producer Price Indexes (PPIs) include prices that producers receive for prices that producers receive for products in the production processproducts in the production process– Finished goods, intermediate materials, Finished goods, intermediate materials,

and crude materials and crude materials – Advantage: detect price increases Advantage: detect price increases

earlierearlier– Leading indicators of future consumer Leading indicators of future consumer

pricesprices

What causes inflation?What causes inflation?

Quantity theory – too much money is in Quantity theory – too much money is in the economythe economy

Demand-pull theory – inflation occurs Demand-pull theory – inflation occurs when demand for goods and services when demand for goods and services exceeds existing supplies exceeds existing supplies

Cost-push theory – inflation occurs when Cost-push theory – inflation occurs when producers raise prices in order to meet producers raise prices in order to meet increased costsincreased costs

Together these cause a wage-price spiral Together these cause a wage-price spiral

Costs of inflation Costs of inflation

Inflation causes the goods and Inflation causes the goods and services we buy to be more services we buy to be more expensiveexpensive

But usually people’s income also But usually people’s income also rises during inflation (Does it rises during inflation (Does it adjust as quickly?)adjust as quickly?)– COLAs = cost of living adjustmentsCOLAs = cost of living adjustments

Who is hurt by Who is hurt by inflation?inflation? Fixed income earners – the Fixed income earners – the

elderly elderly – Retired workers live on private Retired workers live on private

pensions pensions – Monthly checks will never increase Monthly checks will never increase – Some ARE indexed to inflation (like Some ARE indexed to inflation (like

Social Security)Social Security)

Debtors and CreditorsDebtors and Creditors

When inflation is When inflation is anticipatedanticipated, , creditors charge an interest rate creditors charge an interest rate that covers the decrease in value that covers the decrease in value due to inflation due to inflation

Real interest rate Real interest rate = the = the difference between interest rate on difference between interest rate on a loan and the inflation rate a loan and the inflation rate – Ex: Ex: interest rate is 10% and inflation interest rate is 10% and inflation

is 8%. The real interest rate is 2% is 8%. The real interest rate is 2% then.then.

Debtors and CreditorsDebtors and Creditors

When inflation is When inflation is unanticipatedunanticipated, , creditors are hurt b/c they are creditors are hurt b/c they are paid back in money that is not paid back in money that is not worth as much as when they lent worth as much as when they lent it. it.

Inflation that is higher than Inflation that is higher than expected benefits debtorsexpected benefits debtors

Inflation that is lower than Inflation that is lower than expected benefits creditors expected benefits creditors