Transcript Unemployed

7
Introduction to
Economic Growth and
Instability
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Copyright 2008 The McGraw-Hill Companies
Learning objectives
•
In this chapter students will learn:
1.
How economic growth is measured and why it is
important.
About the business cycle and its primary phases.
How unemployment and inflation are measured.
About the types of unemployment and inflation and
their various impacts.
2.
3.
4.
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Economic Growth-how to increase the economy’s productive
capacity over time.
Two definitions of economics growth are given.
1. The increase in real GDP, which occurs over a period of time.
2. The increase in real GDP per capita, which occurs over time.
This definition is superior if comparison of living standards is
desired. For example, China’s 2003 GDP was $1410 billion
compared to Denmark’s $212 billion, but per capita GDP’s
were $1110 and $33,750 respectively.
3. Growth in real GDP does not guarantee growth in real GDP
per capita. If the growth in population exceeds the growth in
real GDP, real GDP per capita will fall.
Growth is an important economic goal because it means more
material abundance and ability to meet the economizing
problem. Growth lessens the burden of scarcity.
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WEF, GCR: 2009/2010
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The “rule of 70”
•
The arithmetic of growth is impressive. Using the “rule of
70,” a growth rate of 2 percent annually would take 35
years for GDP to double, but a growth rate of 4 percent
annually would only take about 18 years for GDP to
double. (The “rule of 70” uses the absolute value of a rate
of change, divides it into 70, and the result is the number of
years it takes the underlying quantity to double.)
Main sources of growth are:
1. increasing inputs or
2. increasing productivity of existing inputs.
•
About one-third of U.S. growth comes from more inputs.
•
About two-thirds comes from increased productivity.
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• The arithmetic of growth needs to be qualified.
a. Growth doesn’t measure quality improvements.
b. Growth doesn’t measure increased leisure time.
c. Growth doesn’t take into account adverse effects on
environment or human security.
d. International comparisons are useful in evaluating the
country’s performance. For example, Japan grew more than
twice as fast as U.S. until the 1990s when the U.S. far
surpassed Japan. (see Global Perspective 7.1). There is also
some tendency for growth rates to move together, reflecting
the interdependence of the global economy.
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Selected Growth Rates
GLOBAL PERSPECTIVE
Percentage Change (annual rate)
6
U.S.
4
France
Germany
2
U.K.
Italy
0
Japan
-2
-4
1997
1999
2001
2003
2005
Source: Economic Report of the President, 2006
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Overview of the Business Cycle
Four phases of the business cycle are identified over a
several-year period. (See Figure 7.1)
1. A peak is when business activity reaches a temporary
maximum with full employment and near-capacity output.
2. A recession is a decline in total output, income, employment,
and trade lasting six months or more.
3. The trough is the bottom of the recession period.
4. The expansion is when output and employment are expanding
toward full-employment level.
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The Business Cycle
Phases of the Business Cycle
O 7.1
Peak
Level of Real Output
Peak
Peak
Trough
Trough
Time
Cyclical Impact:
Durables and Nondurables
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What causes the business cycle
• There are several theories about causation.
1. Major innovations may trigger new investment and/or
consumption spending.
2. Changes in productivity may be a related cause of the
business cycle.
3. The level of aggregate spending is important, especially
changes on capital goods and consumer durables.
Cyclical fluctuations: Durable goods output is more volatile
than non-durables and services because spending on latter
usually can not be postponed.
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Unemployment (One Result of Economic Downturns)
Measuring unemployment (see Figure 7.2 for 2005):
•
The population is divided into three groups:
1.
2.
3.
•
•
those under age 16 or institutionalized
those who are “not in labor force,” (e.g., housewives) and
the labor force that includes those age 16 and over who are willing
and able to work, and actively seeking work (demonstrated job
search activity within the last four weeks).
The unemployment rate is defined as the percentage of the
labor force that is not employed. (Note: Emphasize not the
percentage of the population.)
The unemployment rate is calculated by random survey of
60,000 households nationwide. (Note: Households are in
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.)
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•
The unemployment rate is defined as the
percentage of the labor force (not of
population) that is not employed.
Unemployment
rate
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unemployed
=
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labor force
x 100
Unemployment
Labor Force, Employment, and Unemployment, 2005
Under 16
And/or
Institutionalized
(70.5 Million)
Not in
Labor Force
(76.8 Million)
Total
Population
(296.6 Million)
Employed
(141.7 Million)
Unemployed
(7.6 Million)
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Labor
Force
(149.3 Million)
Two factors cause the official unemployment rate to understate
actual unemployment.
a. Part-time workers are counted as “employed.”
b. “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 unemployment statistic.
Types of unemployment:
1. Frictional unemployment: consists of those searching for
jobs or waiting to take jobs soon; it is regarded as
somewhat desirable, because it indicates that there is
mobility as people change or seek jobs.
Types:
•
Voluntarily moving from one job to another
•
Fired and seeking another job
•
Housewives who decided to work
•
New graduates looking for jobs for the first time
Note: this type of unemployment is inevitable
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2.
Structural unemployment: due to changes in the structure
of demand for labor; e.g., when certain skills become
obsolete or geographic distribution of jobs changes.
Examples of structural unemployment:
a. Glass blowers were replaced by bottle-making machines.
b. Oil-field workers were displaced when oil demand fell in
1980s.
c. Airline mergers displaced many airline workers in
1980s.
d. Foreign competition has led to downsizing in U.S.
industry and loss of jobs.
e. Military cutbacks have led to displacement of workers in
military-related industries.
•
Difference between frictional and structural unemployment
is that frictional unemployed have salable skills, but
structurally unemployed will find it difficult to find a job
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3.
Cyclical unemployment is caused by the recession phase of
the business cycle.
a. As firms respond to insufficient demand for their goods
and services, output and employment are reduced.
b. Extreme unemployment during the Great Depression (25
percent in 1933) was cyclical unemployment.
•
It is sometimes not clear which type describes a person’s
unemployment circumstances.
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Definition of “Full Employment”
• Full employment does not mean zero unemployment.
• The full-employment unemployment rate is equal to the total
frictional and structural unemployment. The full-employment
rate of unemployment is also referred to as the natural rate of
unemployment NRU.
• 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 nations.
• Recently the natural rate has dropped from 6% to 4 to 5%.
This is attributed to:
a. The aging of the work force as the baby boomers approach
retirement.
b. Improved job information through the internet and temporary-help
agencies.
c.
New work requirements passed with the most recent welfare reform.
d. The doubling of the U.S. prison population since 1985.
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Economic cost of unemployment:
•
GDP gap and Okun’s Law: GDP gap is the difference
between potential and actual GDP. (See Figure 7.3)
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”
•
Unequal burdens of unemployment exist. (See Table 7.3)
1.
2.
3.
4.
5.
Rates are lower for white-collar workers.
Teenagers have the highest rates.
African-Americans have higher rates than whites.
Rates for males and females are comparable, though females had a
lower rate in 2002.
Less educated workers, on average, have higher unemployment
rates than workers with more education.
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Unemployment
GDP (billions of 1996 dollars)
Actual and Potential GDP and the Unemployment Rate
12,000
12,000
The GDP Gap
11,000
11,000
GDP gap
(positive)
10,000
10,000
9,000
9,000
Potential GDP
8,000
8,000
GDP gap
(negative)
7,000
7,000
6,000
6,000
Actual GDP
5,000
5,000
1985
Unemployment
(percent of civilian
Labor force)
1985
1987
1987
1989
1989
1991
1991
1993
1993
1995
1995
1997
1997
1999
1999
2001
2001
2003
2003
2005
2005
10 10
8
8
6
6
4
4
2
2
0
0
1985
The Unemployment Rate
1985
1987
1987
19891989
1991
1991
1993
1993
1995
1995
1997
1997
1999
1999
2001
2001
20032003 2005 2005
Source: Congressional Budget Office & Bureau of Economic Analysis
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• Noneconomic costs include loss of self-respect and social and
political unrest.
• International comparisons. (See Global Perspective 7.2)
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Unemployment
GLOBAL PERSPECTIVE
Unemployment Rates in Five Industrial Nations,
1995-2005
Unemployment Rate (percent)
15
France
10
Italy
Germany
U.S.
5
Japan
0
1995
2000
2005
Source: Bureau of Labor Statistics
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Task 2: UNEMPLOYMENT IN KUWAIT
1.
Collect data about unemployment in Kuwait
2.
What are the main trends of unemployment
3.
Why do we have such a problem
4.
What can we do to moderate unemployment
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Inflation: Defined and Measured
• Definition: Inflation is a rising general level of prices (not all prices rise at
the same rate, and some may fall). The main index used to measure inflation
is the Consumer Price Index (CPI).
• To measure inflation, subtract last year’s price index from this year’s price
index and divide by last year’s index; then multiply by 100 to express as a
percentage.
• The main index used to measure inflation is the Consumer Price Index
(CPI).
• Measuring Inflation: the percentage change in CPI
 2002 CPI = 123
 2003 CPI – 127
 Inflation = ((127-123)/123)% = 3.25%
• “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.
• If the inflation rate is 7 percent, then it will take about ten years for prices to
double. (Note: You can also use this rule to calculate how long it takes
savings to double at a given compounded interest rate).
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•
1.
2.
3.
4.
Facts of inflation:
In the past, deflation has been as much a problem as
inflation. For example, the 1930s depression was a period of
declining prices and wages. The prospect of deflation was a
concern of economic policymakers earlier this decade.
All industrial nations have experienced the problem (see
Global Perspective 7.3).
Some nations experience astronomical rates of inflation
(Zimbabwe is a recent case). For more details Visit my blog:
Economic Notes: http://economicnotes.maktoobblog.com/
The inside covers of the text contain historical rates for the
U.S.
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• Causes and theories of inflation:
1. Demand-pull inflation: Spending increases faster than
production. It is often described as “too much spending
chasing too few goods.”
2. Cost-push or supply-side inflation: Prices rise because of rise
in per-unit production costs (Unit cost = total input cost/units
of output).
a. Output and employment decline while the price level is
rising.
b. 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.
3. Complexities: It is difficult to distinguish between
demand-pull and cost-push causes of inflation, although
cost-push will die out in a recession if spending does not also
rise.
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Inflation
Annual Inflation Rates in the United States,
1960-2005
Inflation Rate (percent)
15
10
5
0
1960
1970
1980
1990
2000
Source: Bureau of Labor Statistics
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Inflation
GLOBAL PERSPECTIVE
Inflation Rates in Five Industrial Nations,
1995-2005
Inflation Rate (percent)
6
5
Italy
4
3
2
U.S.
France
1
0
Germany
Japan
-1
1995
2000
2005
Source: Bureau of Labor Statistics
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Redistributive effects of inflation:
•
•
•
•
•
The price index is used to deflate nominal income into real
income.
Inflation may reduce the real income of individuals in the
economy, but won’t necessarily reduce real income for the
economy as a whole (someone receives the higher prices
that people are paying).
Unanticipated inflation has stronger impacts; those
expecting inflation may be able to adjust their work or
spending activities to avoid or lessen the effects.
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.
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• Debtors (borrowers) can be helped and lenders hurt
by unanticipated inflation. Interest payments may
be less than the inflation rate, so borrowers receive
“dear” money and are paying back “cheap” dollars
that have less purchasing power for the lender.
• If inflation is anticipated, the effects of inflation may
be less severe, since wage and pension contracts may
have inflation clauses built in, and interest rates will
be high enough to cover the cost of inflation to savers
and lenders.
• “Inflation premium” is amount that interest rate is
raised to cover effects of anticipated inflation.
• “Real interest rate” is defined as nominal rate minus
inflation premium. (See Figure 7.5)
Effects of inflation are arbitrary, regardless of society’s
goals.
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Inflation
• Anticipated Inflation
–Nominal Interest Rate
–Real Interest Rate
–Inflation Premium
6%
11%
=
+
5%
Nominal
Interest
Rate
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Real
Interest
Rate
Inflation
Premium
O 7.2
Output Effects of Inflation
• Cost-push inflation, where resource prices rise unexpectedly,
could cause both output and employment to decline. Real
income falls.
• Mild inflation (<3%) has uncertain effects. It may be a
healthy by-product of a prosperous economy, or it may have
an undesirable impact on real income.
• Danger of creeping inflation turning into hyperinflation,
which can cause speculation, reckless spending, and more
inflation (see examples in text of Japan following World War
II, and Germany following World War I).
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The Stock Market and the Economy
Do Stock Prices Affect Macroeconomic Instability?
•
•
•
•
•
•
•
•
•
•
•
•
Supply and Demand in the Stock Market
Collective Expectations of Future Profits and Losses
Dow Jones Industrial Average (DJIA)
Volatility of the Stock Market
Wealth Effect
Investment Effect
Studies Show Consumption and Investment Unaffected
Little Impact on Macroeconomy
Stock Market Bubbles Do Have an Impact
Stock Price Cycle Predictions
Index of Leading Indicators
Stock Prices Not a Reliable Predictor Alone
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Key Terms
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
economic growth
real GDP per capita
rule of 70
productivity
business cycle
peak
recession
trough
expansion
labor force
unemployment rate
discouraged workers
frictional unemployment
structural unemployment
cyclical unemployment
full-employment rate of
unemployment
natural rate of unemployment
(NRU)
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•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
potential output
GDP gap
Okun’s law
inflation
Consumer Price Index (CPI)
demand-pull inflation
cost-push inflation
per-unit production costs
nominal income
real income
anticipated inflation
unanticipated inflation
cost-of-living adjustments (COLAs)
real interest rate
nominal interest rate
deflation
hyperinflation
Next Chapter Preview…
Basic
Macroeconomic
Relationships
7-34
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