Transcript PPT

The Economy at
Full Employment
PREPARED BY:
FERNANDO QUIJANO, YVONN QUIJANO,
KYLE THIEL & APARNA SUBRAMANIAN
© 2007 Pearson/Prentice Hall Economics: Principles, Applications, and Tools, 5e O’Sullivan • Sheffrin • Perez
chapter
1 Although we normally think that increased immigration will reduce
wages, what factors could cause increased immigration to raise wages?
Immigration Affects Both the Demand and Supply for Labor
2 Why are differences in the amount of labor supply across countries an
important determinant of economic performance?
Labor Supply Varies Across Countries and Time
3 Do differences in taxes and government benefits explain why Europeans
work substantially fewer hours per year than do Americans or the
Japanese?
A Nobel Laureate Explains Why Europeans Work Less Than
Americans or the Japanese
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7.1
WAGE AND PRICE FLEXIBILITY AND FULL
EMPLOYMENT
• classical models
Economic models that assume
wages and prices adjust freely
to changes in demand and
supply.
Understanding Full Employment
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7.2
THE PRODUCTION FUNCTION
• production function
The relationship between the level of output of a
good and the factors of production that are inputs
to production.
• stock of capital
The total of all machines, equipment, and buildings
in an entire economy.
• labor
Human effort, including both physical and mental
effort, used to produce goods and services.
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7.2
THE PRODUCTION FUNCTION
Y = F(K,L)
 FIGURE 7.1
The Relationship Between
Labor and Output with Fixed
Capital
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7.2
THE PRODUCTION FUNCTION
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7.2
THE PRODUCTION FUNCTION
 FIGURE 7.2
An Increase in the Stock of
Capital
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Extra Application 4
WALL STREET BOOSTED BY JOBS DATA
Stocks opened higher on Wall Street after job market data indicated the economy was still
growing and adding jobs. U.S. unemployment rates fell to their lowest level in more than
five years as non-farm payrolls increased by 92,000 jobs during October. Prior months’
data was also revised upward and confirmed solid job growth.
• Earnings data from several firms also appeared strong and, coupled with wage
growth data, fueled some speculation that inflation was still a risk.
• Bonds yields adjusted accordingly as many bond traders now believe that impending
rate cuts are now more unlikely.
Adding units of labor while holding capital constant will
increase total output. However, note that the returns
to adding new labor are not as great at higher levels of
output as they are at lower levels of output. This is
known as diminishing returns.
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7.3
WAGES AND THE DEMAND AND SUPPLY
FOR LABOR
 FIGURE 7.3
The Demand and Supply of Labor
• real wage
The wage rate paid to employees adjusted for changes
in the price level.
Labor Market Equilibrium
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7.3
WAGES AND THE DEMAND AND SUPPLY
FOR LABOR
Changes in Demand and Supply
 FIGURE 7.4
Shifts in Labor
Demand and Supply
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IMMIGRATION AFFECTS BOTH THE DEMAND AND SUPPLY FOR LABOR
APPLYING THE CONCEPTS #1: Although we normally think that increased immigration will reduce
wages, what factors could cause increased immigration to raise wages?
A recent study by Gianmarco Ottaviano of the University of Bologna and
Giovanni Peri of the University of California, Davis, estimated that during the
1990s immigration, on average, increased the average wage of American-born
workers by 2.7 percent.
They took into account that increased immigration led to:
• Increases in the supply of labor
• Additional investment
• Result: Both the demand and the supply for labor shifted, with the shift in
demand slightly outpacing the shift in supply.
When they looked more closely at wages, they found:
• The wages of high-school dropouts fell, while wages of workers with at
least a high-school education increased.
• Reason: High-school dropouts compete most directly with the new
immigrants, whereas those workers with more education do not.
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7.4
LABOR MARKET EQUILIBRIUM AND FULL
EMPLOYMENT
 FIGURE 7.5
Determining Full-Employment Output
• full-employment output
The level of output that results
when the labor market is in
equilibrium and the economy
is producing at full
employment.
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LABOR SUPPLY VARIES ACROSS COUNTRIES AND TIME
APPLYING THE CONCEPTS #2: Why are differences in the amount of labor supply
across countries an important determinant of economic performance?
Although work may be universal, the amount of work done varies substantially and
consequently affects output. Example: vacation time.
• A typical worker in the United States has 12 days of vacation.
• The United Kingdom: 28 vacation days
Germany: 35 days
Italy: 42 days
Per capita output is higher in the United States than in Germany. But if Germans worked
as many hours as their U.S. counterparts, per capita output would be similar in both
countries.
Within the United States, the amount of work we do has changed substantially over time.
In the last 50 years:
• The labor force participation rate has increased from 59 to 67 percent.
• Labor force participation of women has increased from 34 percent to nearly 60
percent.
• The labor force participation of men has fallen from 86 to 75 percent.
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7.5
USING THE FULL-EMPLOYMENT MODEL
Taxes and Potential Output
 FIGURE 7.6
How Employment Taxes
Affect Labor Demand and
Supply
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A NOBEL LAUREATE EXPLAINS WHY EUROPEANS WORK LESS THAN
AMERICANS OR THE JAPANESE
APPLYING THE CONCEPTS #3: Do differences in taxes and government
benefits explain why Europeans work substantially fewer hours per year than
do Americans or the Japanese?
Today the French (and other Europeans) work one-third fewer hours than do
Americans. In the early 1970s Europeans actually worked slightly more
hours than did Americans.
What explains this dramatic turnaround in the space of just 20 years?
Nobel-laureate Edward Prescott of the Federal Reserve Bank of Minneapolis
and Arizona State University attributes the decreases in hours in Europe to:
• Increases in the tax burden that ultimately falls on workers.
• Government spending and transfers play a larger role in European
economies than in the United States.
Prescott notes that as the burdens of Social Security and Medicare increase,
the United States may be tempted to increase its tax rates.
What will happen if we do not make changes in the underlying programs and
allow tax rates to increase?
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7.5
USING THE FULL-EMPLOYMENT MODEL
Real Business Cycle Theory
• real business cycle theory
The economic theory that emphasizes how shocks to
technology can cause fluctuations in economic activity.
 FIGURE 7.7
How an Adverse
Technology Shock Affects
Labor Demand and Supply
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7.6
DIVIDING OUTPUT AMONG COMPETING
DEMANDS FOR GDP AT FULL EMPLOYMENT
International Comparisons
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7.6
DIVIDING OUTPUT AMONG COMPETING
DEMANDS FOR GDP AT FULL EMPLOYMENT
Crowding Out in a Closed Economy
• crowding out
The reduction in investment (or other component of
GDP) caused by an increase in government spending.
• closed economy
An economy without international trade.
output = consumption + investment + government purchases
Y=C+I+G
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7.6
DIVIDING OUTPUT AMONG COMPETING
DEMANDS FOR GDP AT FULL EMPLOYMENT
Crowding Out in a Closed Economy
 FIGURE 7.8
U.S. Consumption and
Government Spending
During World War II
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7.6
DIVIDING OUTPUT AMONG COMPETING
DEMANDS FOR GDP AT FULL EMPLOYMENT
Crowding Out in a Closed Economy
 FIGURE 7.9
U.S. Investment and
Government Spending
During World War II
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7.6
DIVIDING OUTPUT AMONG COMPETING
DEMANDS FOR GDP AT FULL EMPLOYMENT
Crowding Out in an Open Economy
• open economy
An economy with international trade.
Y = C + I + G + NX
Crowding In
• crowding in
The increase of investment (or other
component of GDP) caused by a
decrease in government spending.
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classical models
open economy
closed economy
production function
crowding in
real business cycle theory
crowding out
real wage
full-employment output
stock of capital
labor
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