Economics Notes on Labor Market Indicators, Unemployment, and Price Indices

Labor Market Indicators and Unemployment

Objectives

Define the unemployment rate and other labor market indicators.
Describe the types of unemployment, define full employment, and explain the link between unemployment and real GDP.

Tutorial Exercises and Textbook Assignment

Complete tutorial exercise of topic 11 for class discussion.
Textbook Reading and Revision Assignment:
- Chapter 22 – 22.1, 22.3
- Checkpoint 22.1, 22.3
- Chapter Summary (Chapter 22)

Labor Market Indicators

Working-age population / Working Population: Total number of people aged 15-64 years who are not in jail, hospital, or institutional care in Hong Kong.
The working-age population is divided into those in the labor force and those not in the labor force.
Labor Force: The number of people employed plus the number unemployed.
- $Labor Force = Employed + Unemployed$
The labor force refers to the land-based non-institutional population aged 15 and over who satisfy the criteria for being classified as employed population or unemployed population.
Employed Population: Persons aged 15 and over who have been at work for pay or profit during the 7 days before enumeration or who have had formal job attachment in Hong Kong.

Two Main Labor Market Indicators

The unemployment rate
The labor force participation rate
Unemployment Rate:
- $Unemployment Rate = "(Number of people unemployed) / (Labor Force)" \times 100\%$
The labour force participation rate refers to the proportion of labour force in the land-based non- institutional population aged 15 and over. It is the percentage of the working-age population who are members of the labor force.
Labor Force Participation Rate:
- $Labor Force Participation Rate = "(Labor Force) / (Working-age population)" \times 100\%$

Practice Problem 1

The labour force was 154.5 million.
Employment was 140.0 million.
The working-age population was 235.9 million.
Calculate the unemployment rate and the labor force participation rate (round to one decimal place).
Solution:
- Number unemployed = Labor force - Number employed
  - $Number \ Unemployed = 154.5 \ million - 140.0 \ million = 14.5 \ million$
- Unemployment rate = (Number unemployed / Labor force) * 100
  - $Unemployment \ Rate = (14.5 \ million / 154.5 \ million) \times 100 = 9.4\%$
- Labor force participation rate = (Labor force / Working-age population) * 100
  - $Labor Force Participation Rate = (154.5 \ million / 235.9 \ million) \times 100 = 65.5\%$

Interesting Facts about Hong Kong Labor Statistics

Provides data on labor force, employment, and unemployment.
Includes statistics broken down by sex.
Presents data on labor force size, participation rate, number of unemployed persons, unemployment rate, and number of employed persons.

Unemployment and Full Employment

There is always some unemployment as the labor market is constantly changing.
New jobs are created, old jobs die, people enter and leave the labor force. This creates unemployment.
Three types of unemployment:
- Frictional unemployment
- Structural unemployment
- Cyclical unemployment
Frictional Unemployment:
- Arises from normal labor turnover.
- People entering and leaving the labor force.
- Quitting jobs to find better ones.
- Ongoing creation and destruction of jobs.
- Example: A graduate looking for their first job.
Structural Unemployment:
- Arises when changes in technology or international competition change the skills needed to perform jobs, or change the locations of jobs.
- Example: In Hong Kong during the 1980s, production lines of textile and clothing moved to Mainland China, causing structural unemployment. The focus of Hong Kong economy changed from manufacturing to banking and financial services.
Cyclical Unemployment:
- Fluctuating unemployment over the business cycle that increases during a recession and decreases during an expansion.
- Example: During the recession of 2008–2009 caused by the Financial Tsunami, many workers were laid off as business activity declined.
Supplementary note: The structural transformation of Hong Kong's economy, repositioning from a manufacturing hub to a financial, trading, and business center, led to faster growth in labor productivity. The contribution of the services sector to GDP rose from 71% in 1986 to 93% in 2014, and the share of services employment to total employment climbed from 55% in 1986 to 88% in 2015.

Check Point Exercises: Alan and Benny

Alan was a banker laid off because of the Financial Crisis.
Benny was a technician of low end mobile phone set but was laid off because his company determined to stop the production line of it and allocated the resources to develop advanced models which a trend in this industry.
Alan experiences cyclical unemployment because the economy fell into recession when it was hit by the Financial Crisis.
Benny experiences structural unemployment because changes in technology make Benny’s skills obsolete and become unemployed.

"Natural" Unemployment

Arises when all unemployment is frictional and structural.
No cyclical unemployment.
Natural Unemployment Rate:
- $Natural \ Unemployment \ Rate = (Natural \ Unemployment / Labor \ Force) \times 100\%$

Major Influences on Natural Unemployment

(i) Age distribution of the population: An economy with a young population has many new job seekers every year and has a high level of frictional unemployment.
(ii) The pace of structural change: The amount of structural unemployment fluctuates with the pace of technological change and fierce international competition.
(iii) The real wage rate: Anything that raises the real wage rate above the market equilibrium level creates a surplus of labor and increases the level of frictional unemployment.
(iv) Unemployment benefits: Unemployment benefits increase the level of frictional unemployment by lowering the opportunity cost of job search.

Cyclical Unemployment and Full Employment

Cyclical unemployment fluctuates over the business cycle—unemployment increases during recessions and decreases during expansions.
At full employment, there is no cyclical unemployment.
Unemployment Rate = Natural Unemployment Rate
At the business cycle trough (depression), cyclical unemployment is positive.
Unemployment Rate > Natural Unemployment Rate
At the business cycle peak, cyclical unemployment is negative.
Unemployment Rate < Natural Unemployment Rate
At full employment, all the unemployment is frictional or structural—and not cyclical unemployment. Practically, full employment does not refer to 100% employment in the real world situation.

Cyclical Unemployment and Real GDP

Potential GDP is the value of real GDP when the economy is at full employment.
Because the unemployment rate fluctuates around the natural unemployment rate, real GDP fluctuates around potential GDP:
- No cyclical unemployment means that the (actual) unemployment rate is the same as the natural rate which implies that real GDP = potential GDP.
- Positive cyclical unemployment means that the (actual) unemployment rate is above the natural rate which implies that real GDP is below potential GDP.
- Negative cyclical unemployment means that the (actual) unemployment rate is below the natural unemployment rate which implies that real GDP is above potential GDP.

Cyclical Unemployment and Output Gap

Output gap is the difference between the actual output of an economy and its potential output.
Output gap can be expressed as a percentage of potential GDP.
(Actual) Unemployment rate same as natural rate Full employment real GDP equals potential GDP no output gap
(Actual) Unemployment rate is above the natural rate real GDP is below potential GDP Negative output gap (GDP recessionary gap)
(Actual) Unemployment rate is below the natural unemployment rate real GDP is above potential GDP Positive output gap (GDP inflationary gap)
(The existence of output gap may induce either the discretionary monetary or fiscal policy.)
$Output \ gap = real \ GDP - potential \ GDP$

Consumer Price Index (CPI) and GDP Price Index

Objectives

Explain what the Consumer Price Index (CPI) and GDP Price Index are.
How to calculate CPI and GDP Price Index.

Tutorial Exercises and Textbook Assignment

Complete the tutorial exercise of topic 11 for class discussion.
Textbook Reading and Revision Assignment:
- Chapter 23 – 23.1
- Checkpoint 23.1
- Chapter Summary (Chapter 23)

The Consumer Price Index

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.
We can use these numbers to compare what a fixed basket of goods costs this month/year with what it cost in some previous months/years.
- Reading the CPI Numbers:
  - The CPI is defined to be 100 for a period called the base year.
  - Base year is a period for which the CPI is defined to equal 100.
Price Level: An average of the level of prices during a given period.

Calculating the CPI

$Consumer \ Price \ Index (CPI) = {(Cost \ of \ CPI \ basket \ at \ current \ year \ prices) / (Cost \ of \ CPI \ basket \ at \ base \ year \ prices)} \times 100$
Steps to calculate CPI:
1. Find the cost of the CPI basket at reference base period prices.
2. Find the cost of the CPI basket at current period prices.
3. Calculate the CPI for the reference base period and the current period.

Measuring Inflation and Deflation

Inflation Rate: The percentage change in the general price level from one year to the next.
CPI is one of the price indexes used to calculate the inflation rate.
- $Inflation \ rate \ (2012) = {(CPI \ in \ current \ year - CPI \ in \ previous \ year) / (CPI \ in \ previous \ year)} \times 100\%$
Inflation means a sustained (continuous) increase in the aggregate or general price level in an economy. There is an increase in the cost of living. Thus, a decrease in the inflation rate simply means the general price level increases at a decreasing rate.
Deflation is a situation in which the price level is falling and the inflation rate is negative.

Practice Problem: Inflation Rate Calculation

Example 1: Based on the previous data and assumed that the CPI for 2011 is 120:
- $Inflation \ rate \ (2012) = {(CPI \ in \ current \ year - CPI \ in \ previous \ year) / (CPI \ in \ previous \ year)} \times 100\%$
Example 2: In July 2024 the CPI was 214.8, and in July 2023 it was 219.1
- $Inflation \ rate \ (2024) = {(214.8 - 219.1) / (219.1)} \times 100\% = -1.96\%$

Check Point 11.2 Practice Problem

The table shows the CPI in Russia.
Calculate Russia’s inflation rate in 2006 and 2007 (round your answer to one decimal place).
Did the price level rise or fall in 2007?
Did the inflation rate increase or decrease in 2007?

GDP Price Index

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.
- $GDP \ price \ index = {(Nominal \ GDP / Real \ GDP) \times 100}$
The GDP price index is a measure of the price level.
The percentage change in the GDP price index is a measure of the inflation rate.
Two differences between the GDP price index and the CPI result in different estimates of the price level and inflation rate:
1. The GDP price index uses the prices of all the goods and services in GDP. The CPI uses prices of consumption goods and services.
2. The GDP price index weights each item using information about current quantities. In contrast, the CPI weights each item using information from a past Consumer Expenditure Survey.