- Slides: 39
Low Unemployment & Low Inflation
Unemployment- Key Terms Unemployment- people of working age who are actively looking for a job but who are not employed. Underemployment- people of working age with part -time jobs when they would rather work full time, or with jobs that do not make full use of their skills and education. e. g. David Beckham as a salesman https: //www. youtube. com/watch? v=y 4 y. DNWlv. K 6 s
Unemployment- Key Terms Labour Force- Number of people who are employed + number of people of working age who are unemployed. Daniel is a hardworking young man who wants to find a job as a barista. However, since he has serious hand eye coordination, he has failed to secure any job. He is so discouraged that he has decided to stop looking and become a Otaku. Is Daniel part of the labour force?
Labour Force excludes children, retired persons, adult students, all people who cannot work because of illness or disability, as well as all people who do not want to work. Unemployment Rate= (Number unemployed/labour force) x 100
Unemployment measurement problems “Hidden Unemployment” • Discouraged workers • Unemployment figures do not make a distinction between full-time and part-time employment, and count people with part-time jobs as having fulltime jobs though in fact they are underemployed. • Unemployment figures make no distinction on the type of work done. If a highly trained person works as a waiter, this counts as full employment. • Unemployment figures do not include people on retraining programmes who previously lost their jobs, as well as people who retire early although they would rather be working. • Take not take into account of unemployment across different locations, demographics, gender
Consequence of Unemployment • A loss of real output (real GDP). • A loss of income for unemployed workers. • A loss of tax revenue for the government. • Costs to the government of unemployment benefits. • Costs to the government of dealing with social problems resulting from unemployment. • More unequal distribution of income. • Unemployed people may have difficulties finding work in the future.
Types of Unemployment Structural Unemployment Occurs as a result of changes in demand for particular types of labour skills, changes in the geographical location of industries and therefore jobs, and labour market rigidities. For example, computer technology, the introduction of automated teller machines (ATMs), and electrical relays and digital switching technology greatly reduced the need for typists, bank tellers and telephone operators, while increasing the need for workers with computer literacy and computer programming and other skills.
Structural Unemployment Humans need not apply https: //www. youtube. com/watch? v=7 Pq. S 557 XQU&t=367 s The Decline of the UK Coal Industry http: //www. economicshelp. org/blog/6498/uncategori zed/the-decline-of-the-uk-coal-industry/ Hong Kong Structural Unemployment
Structural Unemployment- Diagram
Types of Unemployment Frictional Unemployment Occurs when workers are between jobs and tends to be short term. Because of incomplete information, it takes time for the right applicants to get matched up with the right jobs. Therefore, frictional unemployment is part of natural unemployment. Seasonal Unemployment Occurs when the demand for labour in certain industries changes on a seasonal basis because of variations in needs. Farm workers experience seasonal unemployment because they are hired during peak harvesting seasons and laid off for the rest of the year.
Natural Rate of Unemployment = Structural + Frictional + Seasonal Unemployment Since the natural rate of unemployment is unemployment when the economy is producing potential output, a fall in the natural rate of unemployment is reflected by an increase in potential output, appearing as a rightward shift of the LRAS curve and the Keynesian AS curve
Cyclical (demand-deficient) unemployment Cyclical Unemployment occurs during the downturns of the business cycle, when the economy is in a recessionary gap. The downturn is seen as arising from declining or low aggregate demand (AD), and so is also known as demanddeficient unemployment.
4 types of unemployment in relation to the AD-AS model
Inflation - A sustained increase in the general price level. Deflation- A sustained decrease in the general price level. Inflation is far more common than deflation; Disinflation- when inflation occurs at a lower rate.
Measuring inflation and deflation What are the 6 goods or services that you usually buy? Recall that inflation is a sustained increase in the general price level. But what is the general price level?
Consumer Price Index (CPI) The consumer price index (CPI) is a measure of the cost of living, reflected by a hypothetical ‘basket’ containing thousands of goods and services that are consumed by the typical household in the course of a year. The value of the same basket of goods and services is then calculated for subsequent years. The result is a series of numbers that show the value of the same basket of goods and services for different years.
Problems with the CPI • Different rates of inflation for different income earners. • Different rates of inflation depending on regional or cultural factors. • Changes in consumption patterns due to consumer substitutions when relative prices change. • Changes in consumption patterns due to increasing use of discount stores and sales.
Problems with the CPI • Changes in consumption patterns due to introduction of new products. • Changes in product quality. • International comparisons. • Comparability over time.
Core rate of inflation, A CPI that does not include food and energy products with highly volatile prices which may give rise to misleading impressions regarding the rate of inflation The producer price index (PPI) are several indices of prices received by producers of goods at various stages in the production process. Price level changes measured by PPIs are considered to be predictors of changes in the consumer price index (CPI) and hence predictors of the rate of inflation, because they measure price changes at an earlier stage in the production process.
Consequences of Inflation leads to a fall in real income, or purchasing power, only if nominal income is constant, or if nominal income increases more slowly than the price level. Say there is a 5% increase in the price level, which is a 5% rate of inflation. How will your real income be affected?
Consequences of Inflation Redistribution effects Inflation redistributes income away from certain groups in the economy and towards other groups. Are the following people positively or negatively affected? • People who receive fixed incomes or wages? • Borrowers (debtors)? • Holders of cash? • Payers of incomes or wages that increase less rapidly than the rate of inflation. • Lenders (creditors)?
Consequences of Inflation • Redistribution Effects (covered) • Uncertainty • Menu Costs • Money Illusion • International (export) competitiveness Hyperinflation- when the price level increases by more than 50% per month, though it can reach thousands or even millions of percentage points per year.
Appropriate rate of inflation Given the consequences studied above, would the government prefer: 1) Inflation? 2) No inflation? 3) Deflation? Most governments prefer a low and stable rate of inflation, not a zero rate of inflation because a zero rate of inflation comes dangerously close to deflation, which can cause serious problems for an economy.
Types of Inflation Demand-pull inflation Excess of aggregate demand over aggregate supply at the full employment level of output, and is caused by an increase in aggregate demand. It is shown in the AD-AS model as a rightward shift in the AD curve. Classical/Monetarist Keynesian
Types of Inflation Cost-push inflation is caused by a fall in aggregate supply, in turn resulting from increases in wages or prices of other inputs, shown in the AD-AS model as leftward shifts of the AS curve.
Deflation is defined as… Rare because… • Wages of workers do not ordinarily fall. • Large oligopolistic firms may fear price wars. • Firms want to avoid incurring menu costs resulting from price changes
Consequences of Deflation Redistribution Effects Uncertainty Menu Costs Risk of bankruptcies and a financial crisis Risk of a deflationary spiral with high and increasing cyclical unemployment • Deflation discourages spending by consumers, because they postpone making purchases as they expect that prices will continue to fall. Deflation also discourages borrowing by both consumers and firms, for the reason noted above: the real value of debt increases as the price level falls. The result is that consumer and business spending falls, causing aggregate demand to fall. • • •
What is “good” deflation and what is “bad” deflation?
Price Index Construction (HL) price index for a specific year= value of basket in a specific year x 100 value of same basket in base year
Real income = nominal income/CPI x 100 GDP deflator measures the average level of prices of all goods and services included in GDP. The rate of inflation based on the GDP deflator is calculated in the same way as with the consumer price index. (Read page 229 and 285 for details) Read 286 and do TYU 10. 7
The Philips Curve In the late 1950 s, the New Zealand economist A. W. Phillips published a study showing that there appeared to be a long-term NEGATIVE relationship between the unemployment rate and the rate of change in nominal (money) wages. This relationship was later extended by economists to apply to the relationship between unemployment and inflation.
The Philips Curve If you are the government, why would you be very happy?
Philips Curve The Phillips curve appeared to offer governments the possibility of using demand-side policies to choose between various alternatives. High aggregate demand would lead to low unemployment and higher inflation, while low aggregate demand would lead to higher unemployment and lower inflation.
Stagflation This relationship broke down in the 1970 s and 1980 s after a series of supply side shocks led to stagflation. !973 oil crisis- OPEC restricted the supply of oil and led to substantial increase in costs and reduction in supply
No more tradeoff In the late 1970 s, the Nobel Prize-winning, monetarist economist Milton Friedman attacked the idea of a stable negative relationship between inflation and unemployment, and argued that there is only a temporary trade-off between inflation and unemployment, not a permanent one.
The short-run and long-run Phillips curves The long- run Phillips curve is vertical at the natural rate of unemployment, indicating that unemployment is independent of the rate of inflation, and that policy-makers do not have a choice between the two competing alternatives. In the long run, the only impact of an increase in aggregate demand is to increase the rate of inflation, while the level of real output and unemployment remain unchanged at the natural rate of unemployment.