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Business Cycles, Unemployment, Inflation Explained
- 1. Business Cycles, Unemployment, and Inflation Chapter 27 Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
- 2. 27-2 U.S. Real GDP since 1947 U.S. GDP tends to increase over time with ups and downs.
- 3. 27-3 • Two observations on U.S. GDP over time • An upward-trend line: Potential GDP growth. • Alternating increases and decreases along the trend line. • The business cycle is a periodic, but irregular, up- and down-movement of total production and other measures of economic activity. The Business Cycle LO1
- 4. 27-4 • Expansion • When production (real GDP) increases • Recession • When production (real GDP) decreases • Peak and Trough • An expansion ends at a peak and a recession ends at a trough. Phases of Business Cycle LO1
- 5. 27-5 Phases of Business Cycle
- 6. 27-6 Most Recent Business Cycle • The shaded periods show the recessions — periods of falling production that lasts for at least six months.
- 7. 27-7 U.S. Recessions since 1950 Period Duration, Months Depth (Decline in Real Output) 1953-54 10 -2.6% 1957-58 8 -3.7 1960-61 10 -1.1 1969-70 11 -0.2 1973-75 16 -3.2 1980 6 -2.2 1981-82 16 -2.9 1990-91 8 -1.4 2001 8 -0.4 2007-09 18 -3.7 Source: National Bureau of Economic Research, www.nber.org, and Minneapolis Federal Reserve Bank, www.minneapolisfed.gov. Output data are in 2000 dollars Duration of Recessions LO1
- 8. 27-8 Duration of Business Cycle Figure summarizes U.S. recession, expansion, and cycle length since 1854. Recessions have shortened. Expansions have lengthened, and complete cycles have lengthened.
- 9. 27-9 Causes of Business Cycles • Unexpected events (shocks) trigger changes in production and employment • Sources of shocks that cause business cycles • Irregular innovation • Productivity changes • Monetary factors • Political events • Financial instability • Resource availability and prices LO1
- 10. 27-10 • Current Population Survey Every month, 1,600 interviewers working on a joint project of the Bureau of Labor Statistics (BLS) and the Bureau of the Census survey 60,000 households to establish the age and job market status of each member of the household. • It classified peoples into categories •Working-age population •Labor force •Employed and Unemployed Measurement of Labor Market Condition
- 11. 27-11 • Working-Age Population Working-age population is the total number of people aged 16 years and over who are not in a jail, hospital, or some other form of institutional care or in the U.S. Armed Forces. • In 2012, the U.S. population was 314.9 million — 243.3 million people were working-age population and 71.6 million people were not (young, in military or institutionalized). Measurement of Labor Market Condition
- 12. 27-12 • Labor Force Labor force is the number of people employed plus the number unemployed. • In 2012, the U.S. working-age population was 243.3 million — 155.0 million people were labor force and 88.3 million people were not. • People not in labor force are working-age population who are not willing to work (not working or looking for work) — students, full-time housewife, senior citizen. Measurement of Labor Market Condition
- 13. 27-13 • Employed under Population Survey The survey counts as employed all persons who, during the week before the survey: 1.Worked at least 1 hour in a paid job or 15 hours unpaid in family business. 2.Were not working but who had jobs from which they were temporarily absent. • In 2012, the labor force was 155.0 million — 142.5 million people were employed and 12.5 million were unemployed. Measurement of Labor Market Condition
- 14. 27-14 • Unemployed under Population Survey The survey counts as unemployed all persons who, during the week before the survey: 1.Had no employment 2.Were available for work, and either: 1.Had made efforts to find employment during the previous four weeks, or 2.Were waiting to be recalled to a job from which they had been laid off. Measurement of Labor Market Condition
- 15. 27-15 Measurement of Labor Market Condition • Two Main Labor Market Indicators Unemployment rate The percentage of people in the labor force who are unemployed. Labor force participation rate The percentage of the working-age population who are members of the labor force.
- 16. 27-16 Measurement of Labor Market Condition • Unemployment Rate • Labor Participation Rate Unemployment rate = Number of people unemployed x 100 Labor force Labor force participation rate = Working-age population x 100 Labor force
- 17. 27-17 Measurement of Labor Market Condition Under 16 and/or Institutionalized (71.6 million) Not in labor force (88.3 million) Employed (142.5 million) Unemployed (12.5 million) Total population (314.9 million) Labor force (155 million) Unemployment rate = 12,500,000 155,000,000 X 100 = 8.1% Labor participation rate = 155,000,000 243,300,000 X 100 = 63.7% LO2
- 18. 27-18 Measurement of Labor Market Condition • Shortcomings of unemployment measure Unemployment rate reported on Population Survey is not accurate measurement of unemployment. The official definition of unemployment omits two types of labor: •Involuntary part-time workers counted as full- time •Discouraged workers are not counted as unemployed LO2
- 19. 27-19 Measurement of Labor Market Condition • Involuntary part-time workers Involuntary part-time workers are people who work 1 to 34 hours per week but are looking for full-time work. • Discouraged workers Discouraged worker is a person who does not have a job, is available and willing to work, but has not made specific efforts to find a job within the previous four weeks because previous unsuccessful attempts were discouraging. LO2
- 20. 27-20 Measurement of Labor Market Condition • In 2012, there were 8 million involuntary part-time workers. • In 2012, there were 909,000 discouraged workers. • By including discouraged workers, the labor force should be 155.9 million (155.0 million + 0.9 million) in 2012. • By including discouraged workers and involuntary part-time workers, the unemployed were 21.4 million (12.5 million + 8 million + 0.9 million) in 2012. • Then, the actual unemployment rate could be 13.7% (21.4 million ÷ 155.0 million) in 2012 instead of official rate of 8.1%.
- 21. 27-21 U.S. Unemployment Rate since 1929 • U.S. unemployment rate: 1929–2011 From 1948 to 2011, the average unemployment rate was 5.8%.
- 23. 27-23 Labor Participation Rate • The average labor force participation rate increased.
- 24. 27-24 Labor Participation Rate • The labor force participation rate of women has increased. • The labor force participation rate of men has decreased.
- 25. 27-25 Global Perspective • Women in the Labor Force
- 26. 27-26 • Four Types of Unemployment Unemployment is classified into four types based on its cause. •Frictional unemployment •Structural unemployment •Cyclical unemployment •Seasonal unemployment Types of Unemployment LO2
- 27. 27-27 • Frictional unemployment the unemployment that arises from normal labor turnover—from people entering and leaving the labor force and between jobs while searching jobs and waiting to take jobs. Types of Unemployment LO2 For example, a graduate looking for his first job.
- 28. 27-28 • Structural unemployment the unemployment that arises due to changes in the structure of the demand for labor—changes in technology or international competition change the skills needed to perform jobs or change the locations of jobs. Types of Unemployment LO2 For example, telephone switching is now done by computer, rather than by operators. Also, call centers have been relocated to India.
- 29. 27-29 • Cyclical unemployment Caused by the recession phase of the business cycle — it fluctuates over the business cycle that increases during a recession and decreases during an expansion. Types of Unemployment LO2
- 30. 27-30 • Seasonal unemployment the unemployment that arises because of seasonal patterns. Types of Unemployment LO2 For example, lifeguards are only needed during summer. Also, during Christmas season, additional sales persons are hired at retail stores.
- 31. 27-31 • Seasonal unemployment occurs regularly and is predictable. The Bureau of Labor Statistics reports the unemployment rate adjusted for seasonal changes (seasonally adjusted). • Seasonal unemployment cannot be avoided. • Structural unemployment is a result of dynamics (growth) of economy – no pain, no gain. • Frictional unemployment is considered desirable for the economy. • Only cyclical unemployment is desirable to avoid. Types of Unemployment LO2
- 32. 27-32 Natural Rate of Unemployment • Natural Unemployment the unemployment that arises from frictions, structural, and seasonal change when there is no cyclical unemployment—when all the unemployment is frictional, structural, and seasonal. Natural rate of unemployment (NRU) is the natural unemployment as a percentage of the labor force LO2
- 33. 27-33 Natural Rate of Unemployment • Natural Rate of Unemployment (NRU) can vary over time due to • Demographic changes (e.g. age distribution) • Changing job search methods • Public policy changes (e.g. unemployment benefit, minimum wage) • Pace of structural changes • Actual unemployment can be above or fall below the NRU LO2
- 34. 27-34 Full Employment • Full employment When the economy is experiencing only frictional, structural or seasonal unemployment, but not cyclical unemployment. •It occurs when the unemployment rate equals the natural rate of unemployment. •Full employment DOES NOT mean everyone has job. LO2
- 35. 27-35 Potential GDP • Potential GDP The level of real GDP when the economy is at full employment (at natural rate of unemployment). Actual real GDP can be above or below the potential GDP. •When the actual unemployment rate is below the NRU, the actual real GDP is greater than the potential GDP. •When the actual unemployment rate is below the NRU, the actual real GDP is greater than the potential GDP. LO2
- 36. 27-36 GDP Gap • GDP Gap • GDP gap = actual GDP – potential GDP • Can be negative or positive • Okun’s Law • Every 1% of cyclical unemployment creates a 2% GDP gap LO2
- 38. 27-38 GDP Gap and Unemployment Rate LO2 NRU
- 39. 27-39 Economic Cost of Unemployment • Costs to the Economy • Forgone output (lower GDP) and consumption: Unemployed could be used to produce goods and services valuable to the economy • Costs to Individuals • Lost income and consumption (lower standard living) • Missed opportunities for developing skills through work • Costs to the Society • Taxes for unemployment benefits and welfare • Crimes, protectionism, anti-immigration LO2
- 40. 27-40 Unequal Burdens • Burden of Unemployment fall in • Occupation: Blue color • Age: Young • Race and ethnicity: Black • Gender: Male (Mancession) • Education: low education attainment • Duration of Unemployment varies along business cycle • Longer unemployment during recessions LO2
- 41. 27-41 Unequal Burdens Unemployment Rates by Demographic Group: Full Employment Year (2007) and Recession Year (2009)* Demographic Group Unemployment Rate 2007 2009 Overall 4.6% 9.3% Occupation: Managerial and professional Construction and extraction 2.1 4.6 7.6 19.7 Age: 16-19 African American, 16-19 White, 16-19 Male, 20+ Female, 20+ 15.7 24.3 29.4 39.5 13.9 21.8 4.1 9.6 4.0 7.5 Race and ethnicity: African American Hispanic White 8.3 14.8 5.6 12.1 4.1 8.5 Gender: Women Men 4.5 8.1 4.7 10.3 Education:** Less than high school diploma High school diploma only College degree or more 7.1 14.6 4.4 9.7 2.0 4.6 Duration: 15 or more weeks 1.5 4.7LO2
- 42. 27-42 Noneconomic Costs • Some costs of unemployment cannot be measured • Loss of self-respect • Plummeting morale • Family disintegration • Poverty and reduced hope • Heightened racial and ethnic tensions • Suicide, homicide, fatal heart attacks, mental illness • Can lead to violent social and political change LO2
- 43. 27-43 Consumer Price Index (CPI) • Consumer Price Index (CPI): a measure of the average of the prices paid by urban consumers for a fixed market basket of consumer goods and services. • Each month, BLS employees check the prices of the 80,000 goods and services in the CPI basket in 30 metropolitan areas. • We can use these numbers to compare what a fixed basket of goods costs this month with what it cost in some previous month.
- 44. 27-44 CPI as Index Number • Reference base period: a period for which the CPI is defined to equal 100. • Currently, the reference base period is 1982-1984. In 2006, CPI = 201.6 In 2007, CPI = 207.3
- 45. 27-45 Inflation • Inflation: General rise in the price level • Deflation: General fall in the price level • Inflation rate: A percentage change in price index • From 2006 to 2007 Inflation Rate 207.3 - 201.6 201.6= x 100 = 2.8% CPI in current year − CPI in previous year CPI in previous year x 100Inflation rate =
- 46. 27-46 CPI Market Basket • Make the relative importance of the items in the CPI basket the same as in the budget of an average urban household. • The CPI is calculated each month, but the CPI basket is not updated each month. • The CPI basket in 2011 is based on information obtained from the Consumer Expenditure Surveys conducted during 2009 and 2010.
- 47. 27-47 CPI Market Basket • CPI basket in July 2011
- 48. 27-48 Calculating CPI • The CPI calculation has three steps: 1. Find the cost of the CPI basket at base period prices. 2. Find the cost of the CPI basket at current period prices. 3. Calculate the CPI for the base period and the current period. CPI Cost of CPI Basket in Particular Year Cost of CPI Basket in Base Period = x 100
- 50. 27-50 Calculating CPI • CPI calculation Examples For Base Year: CPI = = 100 $50 $50 x 100 For 2012: CPI = = 140 $70 $50 x 100
- 51. 27-51 Inflation Rate in the U.S. LO3
- 52. 27-52 Inflation Rates Across Countries LO3
- 53. 27-53 Bias in CPI Measure • CPI measure is over-estimated • The potential sources of bias in the CPI are • New goods bias • Quality change bias • Commodity substitution bias • Outlet substitution bias
- 54. 27-54 Bias in CPI Measure • New Goods Bias • New goods do a better job than the old goods that they replace, but cost more. • The arrival of new goods puts an upward bias into the CPI and its measure of the inflation rate. • Quality Change Bias • Better cars and televisions cost more than the versions they replace. • A price rise that is a payment for improved quality is not inflation but might get measured as inflation.
- 55. 27-55 Bias in CPI Measure • Commodity Substitution Bias • If the price of beef rises faster than the price of chicken, people buy more chicken and less beef. • The CPI basket doesn’t change to allow for the effects of substitution between goods. • Outlet Substitution Bias • If prices rise more rapidly, people use discount stores more frequently. • The CPI basket doesn’t change to allow for the effects of outlet substitution.
- 56. 27-56 Bias in CPI Measure • The Magnitude of the Bias • The Boskin Commission estimated the bias to be 1.1 percentage points per year. • Consequences of the CPI Bias • Distortion of wage contracts • Increases in government outlays and decreases in taxes: CPI is used to adjust social security benefits, food stamp payments, and federal pensions
- 57. 27-57 Alternative Measure of Price • GDP price index: an average of current prices of all the goods and services included in GDP expressed as a percentage of base-year prices. GDP price index = (Nominal GDP ÷ Real GDP) X 100 •GDP price index uses the prices of all the goods and services in GDP, while CPI uses prices of consumption goods and services. •GDP price index weights each item using information about current as well as past quantities, while CPI weights each item using information from a past Consumer Expenditure Survey.
- 58. 27-58 Types of Inflation • Demand-Pull inflation • Excess spending relative to output • Central bank issues too much money • Cost-Push inflation • Due to a rise in per-unit input costs • Supply shocks LO3
- 59. 27-59 Inflation • Due to frequent supply shocks, food and energy prices change much more than other items in frequency and magnitude • CPI is greatly affected by changes in food and energy prices • Core inflation • Without food and energy goods • Focuses on more stable prices • Used to evaluate a long run trend of inflation LO3
- 60. 27-60 Nominal and Real Values • Nominal value of a good: its value in terms of money. • Real value of a good: its value relative to other good, service, or bundle of goods. • Example: Nominal GDP vs. Real GDP • As prices increase (inflation), a value of money decreases and its purchasing power. • You cannot compare prices of same goods in two different period directly.
- 61. 27-61 Comparing Prices in Different Periods • First class stamp was 2¢ in 1911 • First class stamp is 49¢ in 2015 • Is stamp more expensive? • If a price of stamp has increased proportionally to all other goods, then Price of stamp in 2015 dollars = Price of stamp in 1911 dollars x CPI in 2015 CPI in 1911 = 2¢ x 237.0 9.8 = 48.4 cents
- 62. 27-62 Real Wage vs. Nominal Wage • Nominal wage rate: the average hourly wage rate measured in current dollars. • Real wage rate: the average hourly wage rate measured in the dollars of a given reference base year. • Minimum wage rate changed over time. • Minimum wage rate was $0.25 in 1938 • Minimum wage rate was $3.35 in 1982-4 • Minimum wage rate raised to $7.25 in 2009 and remained since then
- 63. 27-63 Real Minimum Wage Rate • To calculate the real wage rate, we divide the nominal hourly wage rate by the CPI and multiply by 100. Nominal wage rate in particular year CPI in particular year x 100Real wage rate = Year CPI Real Wage Rate 1938 14.1 $0.25/14.1 x 100 = $1,77 1982-84 100.0 $3.35/100 x 100 = $3.35 2009 214.5 $7.25/214.5 x 100 = $3.38 2015 237.0 $7.25/237.0 x 100 = $3.06
- 64. 27-64 Real Wage Rate in the U.S. • Although the nominal wage rate increased almost every year, the real wage rate barely changed since 1981.
- 65. 27-65 Nominal and Real Interest Rate • Nominal interest rate: the dollar amount of interest expressed as a percentage of the amount loaned. • Real interest rate: the goods and services forgone in interest expressed as a percentage of the amount loaned. Real interest rate = Nominal interest rate – Inflation rate • In 2014, the inflation rate was 1.62%, and an interest rate on saving account at SECU was 0.75%. Real interest rate = 0.75% - 1.62% = - 0.87%
- 66. 27-66 Nominal and Real Interest Rate • During the 1970s, the real interest rate became negative • The nominal interest rate increased during the high- inflation 1980s.
- 67. 27-67 Inflation Premium Nominal Interest Rate Real Interest Rate Inflation Premium 11% 5% 6% = + LO4
- 68. 27-68 Nominal and Real Income • Nominal income • Unadjusted for inflation • Real income • Nominal income adjusted for inflation Percentage change in real income = Percentage change in nominal income Percentage change in price level ∼ LO4
- 69. 27-69 Distributional Effect of Inflation • Who is hurt by inflation? • Fixed-income receivers: Real incomes fall • Savers: Value of accumulated savings deteriorates • Creditors (lenders): Get paid back in “cheaper dollars” • Who benefits from inflation? • Debtors (Borrowers): Pay back the loan with “cheaper dollars” • COLA-income receivers: Social security recipients LO4
- 70. 27-70 Hyperinflation • Hyperinflation: Extraordinarily rapid inflation • Zimbabwe’s 14.9 billion percent inflation in 2008 • Hyperinflation devastates an economy • Businesses don’t know what to charge • Consumers don’t know what to pay • Money becomes worthless LO5
Editor's Notes
- This chapter previews the business cycle, unemployment, and inflation. It is an important chapter as it sets the stage for the analytical presentation in later chapters.
- Business cycles are alternating increases and decreases in economic activity over time. Each business cycle consists of four phases. A peak is when business activity reaches a temporary maximum with full employment and near-capacity output. A recession is a decline in total output, income, employment, and trade lasting six months or more; this is sometimes referred to as an economic contraction. The trough is the bottom of the recession period and the expansion is when output and employment are recovering and expanding toward the full employment level.
- Business cycles are alternating increases and decreases in economic activity over time. Each business cycle consists of four phases. A peak is when business activity reaches a temporary maximum with full employment and near-capacity output. A recession is a decline in total output, income, employment, and trade lasting six months or more; this is sometimes referred to as an economic contraction. The trough is the bottom of the recession period and the expansion is when output and employment are recovering and expanding toward the full employment level.
- This figure shows the business cycle. Economists distinguish four phases of the business cycle; the duration and strength of each phase may vary. Additionally, individual cycles vary in duration and intensity. You can see that the long run trend is economic growth.
- The NBER is a nonprofit economic research organization. Within the NBER is the Business Cycle Dating Committee whose job it is to declare the start and the end of recessions in the U.S. They declared that the 2007 recession began in December 2007 and ended in June 2009.
- The following are economic shocks that can cause business cycles. Major innovations may trigger new investment and/or consumption spending. But these occur irregularly and unexpectedly and may contribute to the variability of economic activity. Examples include the computer and the internet. Changes in productivity may be a related cause. Unexpected changes in resource availability or unexpected changes in the rate of technological advances can affect productivity. As the monetary authorities print more money, an inflationary boom can occur. Printing less money than what people were expecting can trigger an output decline. As the economy adjusts to political events like peace treaties or war, economic strains can occur. Rapid asset price increases or decreases can spill over to the general economy and cause booms and busts. The recession of 2007 was led by excessive money, overvalued real estate and unsustainable mortgage debt.
- The BLS is the Bureau of Labor Statistics, an agency within the Department of Labor. The unemployment rate is calculated by taking a random survey of 60,000 households nationwide. (Note: Households are in the survey for four months, out for eight, back in for four, and then out for good. Interviewers use the phone or home visits using laptops.) The population is divided into three groups: Group 1 consists of those under age 16 or institutionalized. In this country, if you are under 16 you are expected to be in school. If you are in an institution such as a nursing home or prison you obviously cannot present yourself to the labor market. Group 2 consists of those “not in labor force”. Examples of individuals who are not in the labor force are full-time college students who are not working, stay at home parents, and retirees. Group 3 consists of those age 16 and over who are willing and able to work, and actively seeking work (individuals who have demonstrated job search activity within the last four weeks). So, Group 3 is the labor force. The labor force is simply described as those who are either employed or unemployed. To be counted as unemployed you must be a part of the labor force. Figure 26.2 shows the labor force, employment, and unemployment in 2009. The labor force consists of persons 16 years of age or older who are not in institutions and who are employed, or unemployed but seeking employment. The unemployment rate is defined as the percentage of the labor force that is not employed and is found by taking the number of those unemployed and dividing that number by the labor force. Remember to multiply the result by 100 so you can express this as a percentage. The BLS rounds the number to one decimal point.
- Two factors cause the official unemployment rate to understate actual unemployment. Part time workers are counted as “employed” even if they really want full-time work. “Discouraged workers” who want a job, but are not actively seeking one, are not counted as being in the labor force, so they are not part of the unemployment statistic. If they are not seeking work, they are officially in group 2 as described on the preceding slide. In 2012 909,000 people fell into this category, up from 396,000 in 2007.
- Two factors cause the official unemployment rate to understate actual unemployment. Part time workers are counted as “employed” even if they really want full-time work. “Discouraged workers” who want a job, but are not actively seeking one, are not counted as being in the labor force, so they are not part of the unemployment statistic. If they are not seeking work, they are officially in group 2 as described on the preceding slide. In 2012 909,000 people fell into this category, up from 396,000 in 2007.
- This Global Perspective shows the unemployment rates in five industrialized nations, 1999-2009. Compared with Italy, France, and Germany, the United States has had a relatively low unemployment rate in recent years.
- Frictional unemployment is regarded as somewhat desirable, because it indicates that there is mobility as people change or seek jobs. Frictional unemployment is usually a short term type of unemployment. Structural unemployment occurs when certain skills become obsolete or geographic distribution of jobs changes. This can be a long-term type of unemployment. Cyclical unemployment is caused by the recession phase of the business cycle. As firms respond to insufficient demand for their goods and services, output and employment are reduced. Extreme unemployment during the Great Depression (25 percent in 1933) is an example of cyclical unemployment. It is sometimes not clear which type describes a person’s unemployment circumstances.
- Frictional unemployment is regarded as somewhat desirable, because it indicates that there is mobility as people change or seek jobs. Frictional unemployment is usually a short term type of unemployment. Structural unemployment occurs when certain skills become obsolete or geographic distribution of jobs changes. This can be a long-term type of unemployment. Cyclical unemployment is caused by the recession phase of the business cycle. As firms respond to insufficient demand for their goods and services, output and employment are reduced. Extreme unemployment during the Great Depression (25 percent in 1933) is an example of cyclical unemployment. It is sometimes not clear which type describes a person’s unemployment circumstances.
- Frictional unemployment is regarded as somewhat desirable, because it indicates that there is mobility as people change or seek jobs. Frictional unemployment is usually a short term type of unemployment. Structural unemployment occurs when certain skills become obsolete or geographic distribution of jobs changes. This can be a long-term type of unemployment. Cyclical unemployment is caused by the recession phase of the business cycle. As firms respond to insufficient demand for their goods and services, output and employment are reduced. Extreme unemployment during the Great Depression (25 percent in 1933) is an example of cyclical unemployment. It is sometimes not clear which type describes a person’s unemployment circumstances.
- Frictional unemployment is regarded as somewhat desirable, because it indicates that there is mobility as people change or seek jobs. Frictional unemployment is usually a short term type of unemployment. Structural unemployment occurs when certain skills become obsolete or geographic distribution of jobs changes. This can be a long-term type of unemployment. Cyclical unemployment is caused by the recession phase of the business cycle. As firms respond to insufficient demand for their goods and services, output and employment are reduced. Extreme unemployment during the Great Depression (25 percent in 1933) is an example of cyclical unemployment. It is sometimes not clear which type describes a person’s unemployment circumstances.
- Frictional unemployment is regarded as somewhat desirable, because it indicates that there is mobility as people change or seek jobs. Frictional unemployment is usually a short term type of unemployment. Structural unemployment occurs when certain skills become obsolete or geographic distribution of jobs changes. This can be a long-term type of unemployment. Cyclical unemployment is caused by the recession phase of the business cycle. As firms respond to insufficient demand for their goods and services, output and employment are reduced. Extreme unemployment during the Great Depression (25 percent in 1933) is an example of cyclical unemployment. It is sometimes not clear which type describes a person’s unemployment circumstances.
- Full employment does not mean zero unemployment, but it does mean that cyclical unemployment is zero. The full employment-unemployment rate is equal to the total frictional and structural unemployment because these types of unemployment are always occurring and are a natural part of our economy. The full employment rate of unemployment is also referred to as the natural rate of unemployment. The natural rate is achieved when labor markets are in-balance; the number of job seekers equals the number of job vacancies. The natural rate of unemployment is not fixed but depends on the demographic makeup of the labor force and the laws and customs of the nation.
- Full employment does not mean zero unemployment, but it does mean that cyclical unemployment is zero. The full employment-unemployment rate is equal to the total frictional and structural unemployment because these types of unemployment are always occurring and are a natural part of our economy. The full employment rate of unemployment is also referred to as the natural rate of unemployment. The natural rate is achieved when labor markets are in-balance; the number of job seekers equals the number of job vacancies. The natural rate of unemployment is not fixed but depends on the demographic makeup of the labor force and the laws and customs of the nation.
- Full employment does not mean zero unemployment, but it does mean that cyclical unemployment is zero. The full employment-unemployment rate is equal to the total frictional and structural unemployment because these types of unemployment are always occurring and are a natural part of our economy. The full employment rate of unemployment is also referred to as the natural rate of unemployment. The natural rate is achieved when labor markets are in-balance; the number of job seekers equals the number of job vacancies. The natural rate of unemployment is not fixed but depends on the demographic makeup of the labor force and the laws and customs of the nation.
- Full employment does not mean zero unemployment, but it does mean that cyclical unemployment is zero. The full employment-unemployment rate is equal to the total frictional and structural unemployment because these types of unemployment are always occurring and are a natural part of our economy. The full employment rate of unemployment is also referred to as the natural rate of unemployment. The natural rate is achieved when labor markets are in-balance; the number of job seekers equals the number of job vacancies. The natural rate of unemployment is not fixed but depends on the demographic makeup of the labor force and the laws and customs of the nation.
- The GDP gap is the difference between potential and actual GDP where potential GDP reflects the level of GDP associated with the natural rate of unemployment. Economist Arthur Okun quantified the relationship between unemployment and GDP as follows: For every 1 percent of unemployment above the natural rate, a negative GDP gap of about 2 percent occurs. This is known as “Okun’s law.” This means that the country is producing below what could potentially be produced, given our resources and level of technology. You might liken this to operating inside of the PPC if you covered the Production Possibilities Model.
- This figure shows the actual and potential real GDP and the unemployment rate from 1989 to 2013. (a) The difference between actual and potential GDP is the GDP gap. A negative GDP gap measures the output the economy sacrifices when actual GDP falls short of potential GDP. A positive GDP gap indicates that actual GDP is above potential GDP. (b) A high unemployment rate means a large GDP gap (negative), and a low unemployment rate means a small or even positive GDP gap.
- A high unemployment rate means a large GDP gap, and a low unemployment rate means a small or even positive GDP gap.
- The GDP gap is the difference between potential and actual GDP where potential GDP reflects the level of GDP associated with the natural rate of unemployment. Economist Arthur Okun quantified the relationship between unemployment and GDP as follows: For every 1 percent of unemployment above the natural rate, a negative GDP gap of about 2 percent occurs. This is known as “Okun’s law.” This means that the country is producing below what could potentially be produced, given our resources and level of technology. You might liken this to operating inside of the PPC if you covered the Production Possibilities Model.
- Unequal burdens of unemployment exist, see the next slide for the table of data. Rates are lower for white collar workers. Teenagers have the highest unemployment rates. African-Americans have higher unemployment rates than whites. Rates for males and females are comparable, though females currently have a lower unemployment rate. Less educated workers, on average, have higher unemployment rates than workers with more education. The “long term” -15 weeks or more- unemployment rate is much lower than the overall rate, although it has increased from 1.5% in 2007 to 4.7% in 2009.
- This table illustrates civilian labor force data for people age 25 or over. As you can see, the overall unemployment rate was 4.6 percent in 2007, and 0.3 percent in 2009.
- Severe unemployment is socially catastrophic as it occurs at the individual level and spreads throughout society.
- Not all prices rise at the same rate, and some prices may stay constant while other prices fall. Reduced purchasing power means that each dollar of income will buy fewer items than before. The CPI-U is the most commonly reported measure of inflation. The main index used to measure inflation is the Consumer Price Index (CPI). The CPI-U is the measure the media reports. This is the CPI for all urban consumers and thought to cover 87% of our population’s purchasing experiences. There are other price indexes reported by the BLS and each is important to different groups. For example, there is the CPI-W, the CPI-C, the PPI etc. To measure inflation, subtract last year’s price index from this year’s price index and divide by last year’s index. Finally, multiply by 100 to express as a percentage. In this numerical example, using CPI data for 2007, there is a price index of 207.3 and 2006 has a price index of 201.6. You can calculate the inflation rate and find it is 2.8%. The BLS rounds to the tenths decimal place. “Rule of 70” permits quick calculation of the time it takes the price level to double: Divide 70 by the percentage rate of inflation and the result is the approximate number of years for the price level to double. Here the inflation rate is 2.8% so divide 70 by 2.8 and you get the number 25. Therefore, it would take about 25 years for prices to double at that rate of inflation. If the inflation rate is 7 percent, then it will take about ten years for prices to double.
- This figure shows the inflation rate in the U.S. from 1960 to 2011.
- This global perspective shows the inflation rates of five different countries. You can see that for the United States the inflation rate has been generally slightly higher than the other countries.
- Demand-pull inflation is a result of spending increasing faster than production. It is often described as “too much spending chasing too few goods.” Cost-push inflation occurs as prices rise because of a rise in per-unit production costs (Unit cost = total input cost/units of output). In cost-push inflation, prices rise but output falls. Rising costs reduce profits and reduce the amount of output producers are willing to supply at the existing price level. As a result, the economy’s supply of goods and services declines and the price level rises. Supply shocks have been the major source of cost-push inflation. These typically occur with dramatic increases in the price of raw materials or energy.
- It is difficult to distinguish between the causes of inflation, although cost-push will die out in a recession if spending does not also rise. Because food (like oranges) and energy products (like gasoline) prices are subject to wide swings that can be temporary in nature, the BLS also reports the core CPI which is the CPI less food and energy. The policy makers are mainly interested in whether the underlying core CPI is rising and how quickly. Based on that analysis, they may take measures to try to stop it.
- This figure shows the inflation premium and nominal and real interest rates. The inflation premium—the expected rate of inflation—gets built into the nominal interest rate. Here, the nominal interest rate of 11 percent comprises the real interest rate of 5 percent plus the inflation premium of 6 percent.
- Nominal income is the number of dollars received as wages, rent, interest, or profit. Real income refers to the purchasing power of your income (how much can actually be purchased with your income). Anticipated inflation is much less harmful than unanticipated inflation. Real income can decrease even with an increase in nominal income if the inflation rate is higher than the increase in nominal income.
- Harm from unanticipated inflation causes real incomes and wealth to be redistributed. Were the inflation to be expected, people could plan ahead for it. Those expecting inflation may be able to adjust their work or spending activities to avoid or lessen the effects. Unanticipated inflation has stronger impacts. Fixed income groups will be hurt because their real income suffers. Their nominal income does not rise with prices. Savers will be hurt by unanticipated inflation because interest rate returns may not cover the cost of inflation. Their savings will lose purchasing power. Creditors (or lenders) can be harmed by unanticipated inflation. Interest on payments received may be less than the inflation rate and loan payments will have less purchasing power for the lender when the lender did not correctly anticipate and account for inflation.
- There is a danger of creeping inflation turning into hyperinflation, which can cause speculation, reckless spending, and more inflation. The Zimbabwe experience is interesting. The government of Zimbabwe faces a wide variety of difficult economic problems as it struggles with an unsustainable fiscal deficit, an overvalued official exchange rate, hyperinflation, and bare store shelves. Its 1998-2002 involvement in the war in the Democratic Republic of the Congo drained hundreds of millions of dollars from the economy. The government's land reform program, characterized by chaos and violence, has badly damaged the commercial farming sector, the traditional source of exports and foreign exchange and the provider of 400,000 jobs, turning Zimbabwe into a net importer of food products. The EU and the US provide food aid on humanitarian grounds. Badly needed support from the IMF has been suspended because of the government's arrears on past loans and the government's unwillingness to enact reforms that would stabilize the economy. The Reserve Bank of Zimbabwe routinely prints money to fund the budget deficit, causing the official annual inflation rate to rise from 32% in 1998, to 133% in 2004, 585% in 2005, past 1,000% in 2006, and 26,000% in November 2007, and to 11.2 million percent in 2008. Meanwhile, the official exchange rate fell from approximately 1 (revalued) Zimbabwean dollar per US dollar in 2003 to 30,000 per US dollar in September 2007.