The document discusses several macroeconomic issues: [1] It examines statements about unemployment, inflation, economic growth, and recessions, disagreeing with overly simplistic views. [2] It analyzes economic data for a sample country, finding generally steady growth and low unemployment but rising inflation over time. [3] It distinguishes China's economic growth from temporary expansions and discusses the implications for living standards. [4] It differentiates cyclical, frictional, and structural unemployment and policies to reduce each. [5] It explains how unexpected inflation affects borrowers and lenders in loans with fixed interest rates.

1. 1
FACULTY OF BUSINESS
ECN1014 INTRODUCTORY ECONOMICS
Tutorial 7
Macroeconomic Issues
1 Explain whether you agree with the following statements:
(a) ‘Unemployment is both a social and economic evil which should be eliminated at all
cost.’
Suggested Solutions
 Disagree
 Under the Full Employment and Balanced Growth Act of 1978, the government sets
an unemployment goal for itself, but this goal is not a zero unemployment rate.
 There will always be some unemployment usually in the 3-5% range as there
always be some who are unemployed for various reasons.
 As the economy approaches full employment, it begins to experience inflationary
pressure. At this point, there is a trade-off between increases in employment and
stable prices.
 It would be very difficult and even undesirable, to eliminate frictional or seasonal
unemployment.
(b) ‘Even a rise in the unemployment rate by 0.1 or 0.2 percent for a month is bad.’
Suggested Solutions
 Disagree
 Small changes in the unemployment rate tell us nothing about what is happening to
disguised unemployment (people who seem to be working but are not),
discouraged workers (people who are no longer looking), or changes in the labour
force.
 Large changes in seasonal or frictional unemployment are not necessarily bad and
could not be easily remedied even if they were.
 Be careful in interpreting short run changes in the unemployment rate.
(c) ‘As long as price increases do not exceed the inflation rate, they do not contribute to
inflation.’
Suggested Solutions
 Disagree
 Since the inflation rate is an average of all price increases, the increase in any price
by any amount raises the average.
 Firms that buy commodities from other firms that raise prices will in turn pass the
increase on to their own customers.
 An increased price may have indirect effects in raising the inflation rate.

2. 2
(d) ‘If the economic growth rate is less than it was in the last quarter, this indicates a
recession.’
Suggested Solutions
 Disagree
 The economic growth rate is measured by the percentage change in the real GDP.
 A recession is defined to occur whenever that percentage change is negative for
two consecutive quarters.
 As long as the economic growth rate is positive, the economy is not defined to be in
a recession even if the growth rate is less than in the previous quarter.
2 The following table shows key statistical data of a country’s overall economic performance.
Year Real GDP Population Labour Force Total Consumer Price
Employment Index (2005=100)
(RM million) (million) (million) (million) (million)
2003 399,414 25.05 10.24 9.87 95.7
2004 426,508 25.58 10.35 9.98 97.1
2005 449,250 26.13 10.41 10.05 100.0
2006 475,526 26.64 10.63 10.28 103.6
2007 504,919 27.17 10.89 10.54 105.7
2008 528,311 27.73 11.03 10.66 111.4
(a) Based on the information given, compute the real GDP growth, the unemployment rate
and the inflation rate.
Suggested Solutions:
Year Real GDP Growth Rate Unemployment Rate Inflation Rate
(percent) (percent) (percent)
2003 – 3.61 –
2004 6.78 3.54 1.46
2005 5.33 3.54 2.99
2006 5.85 3.33 3.60
2007 6.18 3.23 2.03
2008 4.63 3.34 5.39
(b) Comment upon the health of the country’s macroeconomic performance by using these
measures.
Suggested Solutions:
 The real GDP growth rate revolves around 5-6 percent. The growth slowed down to
around 4.6 percent in 2008.
 The unemployment rate stays at an average of 3.43 percent, reaching full
employment level,

3. 3
 The inflation rate ends higher at 5.4% in 2008 as compared with an average of 3.1
percent.
 Overall, the economy maintains an average growth rate of 5.8 percent at the full
employment level, but inflation rate, in general, shows an upward trend.
3 ‘China’s trend growth rate of real GDP per person was 2.2 percent a year before 1980 and
8.7 percent a year after 1980. In the year to August 2009, China’s output increased by 11.3
percent.’
Source: World Economic Outlook and Financial Times, 14 September 2009
(a) Distinguish between a rise in China’s economic growth rate and a temporary cyclical
expansion.
Suggested Solutions
 A one-shot increase in GDP or a recovery from recession can hardly be defined as
‘economic growth’, although in essence there more output and income is
generated.
 Economic growth is more appropriately defined as a sustainable and persistent
increase in the economy’s capacity to produce more goods and services which in
turn allows a sustained increase in consumption.
Actual GDP Growth Potential GDP Growth
Percentage annual change or increase in Percentage annual change of increase in
real GDP the economy’s productive capacity
Represented by a movement from a Represented by an outward shift of the
point to another point closer to the entire production possibility frontier
production possibility frontier
An indication of an improvement in the An indication of an increase in the
economy’s ability to use the existing economy’s productive capacity which
factors of production (land, capital, labour allows more goods and services to be
and entrepreneurs) more efficiently produced over a sustained period of time.
This is usually reflected by an increase in
labour productivity as a result of:
 Physical capital growth
 Human capital growth
 Technological advances
(b) To what extent the above statement confirms an increase in the standard of living in
China?
Suggested Solutions
 A higher GDP level is commonly equated with a rise in the standard of living.
 As a measure of output, GDP statistics may fail to account for:
o Household production
o Underground production

4. 4
o Production of the undesirables
 As a measure of welfare, GDP statistics may fail to reflect:
o Leisure time
o Income distribution
o Human costs of production
o Consumption and investment
o Other qualitative aspects where appropriate and acceptable
4 ‘Matching people with available jobs is always difficult after a recession as the economy
remakes itself. But Labour Department data suggest the disconnect is particularly acute this
time. Since the recovery began in mid-2009, the number of job openings has risen more
than twice as fast as actual hires. If the job market were working normally, openings would
be getting filled as they appear. Some five million more would be employed and the
unemployment rate would be 6.8 percent, instead of 9.5 percent.’
Source: The Wall Street Journal, 9 August 2010
(a) Distinguish between cyclical unemployment, structural unemployment and frictional
unemployment.
Suggested Solutions:
Cyclical Unemployment Frictional Unemployment Structural Unemployment
Definition Caused by deficient Refers to the circumstance Caused by changes in
aggregate demand when people are between demand pattern for goods
jobs and are taking time to and services and production
search for jobs which suit methods which make certain
them the best specialised labour services
or skills redundant
Duration Cyclical unemployment Frictional unemployment Structural unemployment
may temporarily push the could be more persistent due usually lasts longer than both
unemployment rate above to the following reasons: cyclical and frictional
the natural rate and will  Labour market unemployment for the
gradually subside once the information is imperfect following reasons:
economy is on the path to Workers believe that the  Geographical and
recovery. more time they spend occupational immobility
searching for a job, the – constrained by social
more likely they will ties and reluctance to
obtain one which meets relocate to a new place
their expectations. where appropriate jobs
are available
 Occupational immobility
of labour – skills are not
easily transferable
(b) Examine the ways by which, and the extent to which, each of the above can be
reduced.
Suggested Solutions
 Cyclical unemployment

5. 5
o Lowering interest rates which in turn encourage investment through lower cost
of borrowing.
o Reducing taxes which raises disposable income and thus raising consumption
o Raising government expenditure which directly gives aggregate demand a
boost
 Frictional unemployment
o Improving information dissemination
 Structural unemployment
o Providing retraining schemes for unemployed workers who wish to acquire new
skills that match the demand in the labour market
o Providing information concerning recreational facilities, schools and quality of
life in the areas where employment prospects are brighter
*Note:
Demand-management policies which address cyclical unemployment may not
necessarily be effective in alleviating frictional and structural unemployment. The
latter two, for various reasons, often explain why unemployment can never be
reduced to zero.
5 Suppose that a borrower and a lender agree on the nominal interest rate to be paid on a
loan. Then inflation turns out to be higher than they both expected.
(a) Is the real interest rate on this loan higher or lower than expected?
Suggested Solutions:
 There is a need for distinguishing between nominal interest rates (r) and real
interest rates (r*).
 r* = r – P
 When inflation is higher than expected, the real interest rate is lower than expected.
(b) Does the lender gain or lose from this unexpectedly high inflation? Does the borrower
gain or lose?
Suggested Solutions:
 Higher-than-expected inflation erodes the real value of savings and reduces real
value of debt.
 Thus borrowers gain at the expense of lenders.
(c) Inflation during the 1970s was much higher than most people expected when the
decade began. How did this affect homeowners who obtained fixed-rate mortgages
during the 1960s? How did it affect the banks that lent the money?
Suggested Solutions:
 Homeowners in the 1970s who had fixed-rate mortgages from the 1960s benefited
from the unexpected inflation, while the banks who made the mortgage loans are
made worse off.