Macro - Chapter 5

What does Unemployment Cause

Loss in incomes and production and lost human capital

Working-age Population

the number of people aged 16 years and older who are not in jail, hospital, or some other institution

What makes up the population?

• Working-age population

• People too young to work (16 and younger) or those in institutional care

labor force

sum of employed and unemployed workers

What three criteria classifies an individual as unemployed?

1. Without work but has made efforts to find a job within the previous four weeks

2. Waiting to be called back to a job from which he or she has been laid off

3. waiting to start a new job within 30 days

What are the three labor market indicators?

• unemployment rate

• employment-to-population ratio

• labor force participation

unemployment rate

percentage of the labor force that is unemployed

When does unemployment increase and when does it reach it’s peak value?

Unemployment increases in a recession and reached peak after the end of the recessionary period

employment-to-population ratio

percentage of working-age population who have jobs

Labor force participation rate

percentage of the working-age population who are members of the labor force

Why is the unemployment imperfect?

does not take into consideration the marginally attached workers and the part-time workers who want full-time jobs

marginally attached worker

person who currently is neither working nor looking for work but has indicated that he or she wants and is available for a job and has looked for work sometime in the recent past

discouraged worker

marginally attached worker who has stopped looking for a job because of repeated failure to find one

Frictional Unemployment

unemployment that arises when workers are searching for new jobs or are transitioning from one job to another

Structural Unemployment

unemployment created by changes in technology and foreign competition that change the skills needed to perform jobs or the location of jobs

Cyclical Unemployment

higher than normal unemployment at a business cycle trough and lower than normal unemployment at a business cycle peak

natural unemployment

unemployment that arises from frictions and structural change when there is no cyclical unemployment

natural unemployment rate

natural unemployment as a percentage of the labor force

full employment

situation where unemployment rate equals the natural unemployment rate

Key factors that influence natural unemployment rate

• the age distribution of the population

• scale of structural change

• the real wage rate

• unemployment benefits

Potential GDP

quantity of real GDP produced at full employment

output gap

real GDP - potential GDP

price level

average level of prices and value of money

inflation

persistently rising price level

deflation

a persistently falling price level

What is the price level used for?

Measuring inflation/deflation rate and distinguishing between money values and real values of economic variables

Why Inflation and Deflation Are Problems?

• redistributes income

• redistributes wealth

• lowers real GDP and employment

• Diverts resources from production

hyperinflation

an inflation rate that is so rapid

Consumer Price Index

average of the prices paid by urban consumers for a “fixed” basked of goods and services

Who are economic part-time workers?

part-time workers who wish to work full-time

Most costly unemployment?

long-term unemployment

employment-to-population ratio equation

(employment/working-age population) x 100

Labor force participation rate

(labor force/working-age population) x 100

What does it mean when the output gap is negative?

The unemployment rate exceeds the natural rate of unemployment

Why is unpredicted inflation/deflation a problem?

• redistributed income

• redistributes wealth

• lowers real GDP/employment

• diverts resources from production

3 Stages to Calculate CPI

• selecting CPI basket

• Conducting monthly price survey

• calculating the CPI

How is the CPI calculated?

1. cost of CPI at base-period price

2. cost of CPI at current prices

3. CPI calculation for current period

CPI formula

(cost of basket at current prices/cost of basket at base-year prices) x 100

inflation rate

percentage change in the price level from one year to the next

Why might the CPI overstate the true inflation rate?

• new goods bias

• quality change bias

• commodity substitution bias

• outlet substitution bias

New good bias

new goods that were not available in the base year appear and, if they are more expensive than the goods they replace, they put an upward bias on the CPI

Quality Change Bias

quality improvements occur every year resulting in higher prices, these higher prices will factor into the CPI as inflation rather than quality improvements

commodity substitution bias

The market basket of goods used in calculating the CPI is fixed and does not consider consumers’ substitutions away from goods whose relative prices increase.

Outlet Substitution Bias

As the structure of retailing changes, people switch to buying from cheaper sources, but the CPI, as measured, does not take into account this outlet substitution.

PCEPI

index that is much broader because it includes all consumption expenditure, not only items bought by a typical urban family

GDP deflator

index similar to the PCEPI - includes prices of ALL goods/services included as part of GDP