Principles Of Economics PDF

Principles of Economics Thirteenth Edition Chapter 22 Unemployment, Inflation, and Long-Run Growth Copyright © 2020, 2016, 2011 Pearson Edu...

Principles of Economics Thirteenth Edition Chapter 22 Unemployment, Inflation, and Long-Run Growth Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Chapter Outline and Learning Objectives (1 of 2) 22.1 Unemployment Explain how unemployment is measured. 22.2 Inflation and Deflation Describe the tools used to measure inflation and discuss the costs and effects of inflation. 22.3 Long-Run Growth Discuss the components and implications of long-run growth. Looking Ahead Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Chapter 22 Unemployment, Inflation, and Long-Run Growth The unemployment rate and inflation are key macroeconomic variables. Each month the U.S. Bureau of Labor statistics (BLS) announces the previous month’s unemployment rate and the consumer price index (CPI). Although much of macroeconomics is concerned with business cycles, long-run growth is also a major concern. Unemployment DOSM - https://www.dosm.gov.my/v1/index.php?r=column/cthemeByCat&cat=124&bul _id=dkk0WCtZL01MVjl3NWFBeWp5VmZsQT09&menu_id=Tm8zcnRjdVRNW WlpWjRlbmtlaDk1UT09 Price level (inflation DOSM) - https://www.dosm.gov.my/v1/index.php? r=column/cthemeByCat&cat=107&bul_id=Z21saXF2Z3dsc25hWDVEZTZTdkV 1UT09&menu_id=bThzTHQxN1ZqMVF6a2I4RkZoNDFkQT09 Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Unemployment Measuring Unemployment Employed Any person 16 years old or older (1) who works for pay, either for someone else or in his or her own business for 1 or more hours per week, (2) who works without pay for 15 or more hours per week in a family enterprise, or (3) who has a job but has been temporarily absent with or without pay. Unemployed A person 16 years old or older who is not working, is available for work, and has made specific efforts to find work during the previous 4 weeks. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Unemployment (additional) Unemployment is defined as labour force participants being available and willing to work BUT unable to find job. For example, we are now hit with pandemic covid-19, many people jobless - there are people between the age 16 and 65 who are not working, but are actively seeking jobs. This is unemployment. The keyword here is willing to work BUT unable to find job. The rate of unemployment is an important guide towards a country’s economic situation. The unemployment rate is defined as the percentage of the labour force that is not employed but actively seeking employment. The rate of unemployment will increase when there is recession and it will decrease when there is economic growth. It is because there will be some unemployment when there is a change of jobs, or while workers wait for better job opportunities. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Unemployment (additional) Unemployment is often used as a measure to gauge the health of economy in a country. We can categorize the population into three different age groups: (i) Less than 16 years old (ii) 16–65 years old (iii) More than 65 years old The age between 16–65 years is considered as the total labour force. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measuring Unemployment (1 of 2) Not in the labor force A person who is not looking for work because he or she does not want a job or has given up looking. Labor force The number of people employed plus the number of unemployed. labor force  employed  unemployed population  labor force  not in labor force Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measuring Unemployment (2 of 2) Unemployment rate The ratio of the number of people unemployed to the total number of people in the labor force (employed + unemployed). unemployed unemployment rate  employed  unemployed Labor force participation rate The ratio of the labor force to the total population 16 years old or older. labor force labor force participation rate  population Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Copyright Copyright © 2017, 2015, 2013 Pearson © 2020, Education, 2016, Inc. All 2011 Rights Pearson Education, Inc. All Rights Reserved Reserved Table 22.1 Employed, Unemployed, and the Labor Force, 1950–2017 Blank (1) (2) (3) (4) (5) (6) Population Labor Employed Unemployed Labor Force Unemployment 16 Years Force (Millions) (Millions) Participation Rate Old or Over (Millions) Rate (Percentage (Millions) (Percentage Points) Points) 1950 105.0 62.2 58.9 3.3 59.2 5.3 1960 117.2 69.6 65.8 3.9 59.4 5.5 1970 137.1 82.8 78.7 4.1 60.4 4.9 1980 167.7 106.9 99.3 7.6 63.8 7.1 1990 189.2 125.8 118.8 7.0 66.5 5.6 2000 212.6 142.6 136.9 5.7 67.1 4.0 2010 237.8 153.9 139.1 14.8 64.7 9.6 2017 255.1 160.3 153.3 7.0 62.9 4.4 Note: Figures are civilian only (Military excluded). Source: Economic Report of the President, 2018 and U.S. Bureau of Labor Statistics. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Components of the Unemployment Rate (1 of 3) Unemployment Rates for Different Demographic Group Table 22.2 Unemployment Rates by Demographic Group, 1982 and 2018 Blank Years November 1982 February 2018 Total Blank 10.8 4.1 White Blank 9.6 3.7 Men 20+ 9.0 3.4 Women 20+ 8.1 3.3 Both sexes 16-19 21.3 12.6 African American Blank 20.2 6.9 Men 20+ 19.3 5.9 Women 20+ 16.5 6.2 Both sexes 16-19 49.5 27.2 Source: U.S. Bureau of Labor Statistics. Data are seasonally adjusted. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Components of the Unemployment Rate (2 of 3) Underemployed Underemployed refer to people who have a job which is part- time or temporary. Underemployment is a situation where a person is employed but is not fully utilizing their skills, education, or experience in their job, resulting in lower pay or fewer working hours than desired. For example, someone with a college degree may be tending bar, or working as a factory assembly line worker. There cannot be zero unemployment in any economy because some people will be unemployed while changing their jobs. According to Lord Beverigde, full employment is achieved when no more than 3% of the working population is unemployed. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Components of the Unemployment Rate (3 of 3) Discouraged-Worker Effects Discouraged-worker effect The decline in the measured unemployment rate that results when people who want to work but cannot find jobs grow discouraged and stop looking, thus dropping out of the ranks of the unemployed and the labor force. If a BLS survey respondent cites inability to find employment as the sole reason for not searching for work, that person might be classified as a discouraged worker. Some economists argue that including the number of discouraged workers as unemployed gives a better picture of the unemployment situation. ** BLS - Bureau of Labor Statistics Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Duration of Unemployment Table 22.3 Average Duration of Unemployment, 1970-2017 Blank Weeks Blank Weeks Blank Weeks 1970 8.6 1986 15.0 2002 16.6 1971 11.3 1987 14.5 2003 19.2 1972 12.0 1988 13.5 2004 19.6 1973 10.0 1989 11.9 2005 18.4 1974 9.8 1990 12.0 2006 16.8 1975 14.2 1991 13.7 2007 16.8 1976 15.8 1992 17.7 2008 17.9 1977 14.3 1993 18.0 2009 24.4 1978 11.9 1994 18.8 2010 33.0 1979 10.8 1995 16.6 2011 39.3 1980 11.9 1996 16.7 2012 39.4 1981 13.7 1997 15.8 2013 36.5 1982 15.6 1998 14.5 2014 33.7 1983 20.0 1999 13.4 2015 29.2 1984 18.2 2000 12.7 2016 27.5 1985 15.6 2001 13.1 2017 25.0 Source: U.S. Bureau of Labor Statistics. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Categories of Unemployment There are three categories of unemployment: – Frictional unemployment – Structural unemployment – Cyclical unemployment Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Categories of Unemployment (cont.) Frictional, Structural, and Cyclical Unemployment Frictional unemployment The portion of unemployment that is as a result of the normal turnover in the labor market; used to denote short-run job/skill-matching problems. Includes new entrants such as school-leavers, fresh graduates and re-entrants, such as people who quit their jobs for a better position or higher wages, or former homemakers. Hence, there is a time lag during which a worker is unemployed when moving from one job to another. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Categories of Unemployment (cont.) Frictional, Structural, and Cyclical Unemployment Structural unemployment The portion of unemployment that is as a result of changes in the structure of the economy that result in a significant loss of jobs in certain industries. This unemployment results from structural decline of industries, unable to compete or adapt to changing demand and new products, or changing method of production. A change in the pattern of demand results when tastes change, demographic profile change or introduction of new products or technology made the existing product obsolete, hence the skills of workers are no longer suitable with the jobs available. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Categories of Unemployment (cont.) Frictional, Structural, and Cyclical Unemployment Natural rate of unemployment The unemployment rate that occurs as a normal part of the functioning of the economy. Sometimes taken as the sum of the frictional unemployment rate and the structural unemployment rate. Cyclical unemployment - Unemployment that is above frictional plus structural unemployment. This unemployment is caused by a decrease in aggregate demand, due to a downswing of the business cycle. When an economy is under recession, aggregate demand falls and via the multiplier effect, national income falls further. Hence, consumption falls, production reduces, companies may close down and workers are laid off, resulting in cyclical unemployment. Cyclical unemployment is a serious form of unemployment because it usually creates more unemployment. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved The Costs of Unemployment Social Consequences The costs of unemployment are neither evenly distributed across the population nor easily quantified. The social consequences of the Depression of the 1930s are perhaps the hardest to comprehend: – At the bottom were the poor and the fully unemployed, about 25% of the labor force. – Even those who kept their jobs found themselves working part time. – Many people lost all or part of their savings as the stock market crashed and thousands of banks failed. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Effects of Unemployment (i) Loss of job skills If unemployment persists for a long period, individuals will lose their job skills, causing a loss in human capital. It will also lead them to radical social and political activities by increasing crime rates. (ii) Permanent loss of output of goods and services An economy with high unemployment is not using all of their resources, especially labour available to it. The economy is operating below its production possibility frontier, reducing the economy’s efficiency and production. (iii) Loss in government revenue High unemployment means that the government will receive less taxation revenue but will have to pay more on unemployment benefits. (iv) Social problems Unemployment results in lower morale and human suffering. The family unit will be affected if the sole bread-winner were to lose his job. Social problems arise if the unemployed turn to drugs or crime. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measurements for Controlling Unemployment: (i) (Expansionary) Fiscal Policy (ii) (Expansionary) Monetary Policy Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved (i) Fiscal Policy Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Fiscal Policy (cont.) Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved (ii) Monetary Policy Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved FROM Topic 3 Expansionary open market operation (BNM buying securities and treasury bills)  MS   i   Investment (Ig)   AD   Q  During Recession Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Inflation Inflation - Defined as a persistent and sustained increase in the general price level. Implies that there is an increase in the cost of living that causes lower purchasing power. There is an inverse relationship between inflation and the value of money. A rise in the general price means a drop in the value of money. Measures of inflation: – Inflation is measured by using the Consumer Price Index (CPI). Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Inflation and Deflation Consumer price index (CPI) A price index computed each month by the Bureau of Labor Statistics using a bundle that is meant to represent the “market basket” purchased monthly by the typical urban consumer. Source: The Bureau of Labor Statistics. The CPI market basket shows how a typical consumer divides his or her money among various goods and services. Most of a consumer’s money goes toward housing, transportation, and food and beverages. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Copyright Copyright © 2017, 2015, 2013 Pearson © 2020, Education, 2016, Inc. All 2011 Rights Pearson Education, Inc. All Rights Reserved Reserved Types of Inflation (i) Demand-pull inflation (shift in demand side) This type of inflation is caused by excess demand in fully employed economy. Demand-pull inflation occurs when aggregate demand (AD) exceeds the aggregate supply (AS). As AD = C + I + G + (X - M), any increase of these variables will cause aggregate demand to rise. When the economy is at full employment level (Yf), an increase in aggregate demand will cause an increase in general price level. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Types of Inflation (ii) Cost Push Inflation (shift in supply side) Caused by a decrease in aggregate supply due to an increase in cost of production for each unit of output produced. For instance, when price of raw materials or wages increase, the cost of production will also increase causing aggregate supply to decrease and the price of goods and services to increase. The shift in the aggregate supply curve may result from various factors: Factors of Cost Push Inflation Exhaustion Fall in Wage Push Import Push Tax-push Profit Push of natural exchange Inflation Inflation inflation Inflation resources rate Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Factors of Cost Push Inflation Wage-push Due to wage increases which will lead to increase in the inflation cost of production and the output price. Import-push Due to increase in he prices of imported raw materials or inflation finished goods. Exhaustion If a main resource become scarce, the aggregate supply of natural curve will shift to the left and price will increase. resources Fall in A fall in the external value of country’s currency will worsen inflation as lower exchange rate which will cause imports goods become more expensive exchange rates Thus, firms will have to pay more for their imported raw materials or machinery. Tax-push Producers are allowed to pass on the increases in indirect taxes to the consumers and this will Inflation push up the selling price of products in the shops. Occurs when firms gain more power and are able to push up prices to make larger profits. Profit-push Happened when markets move toward monopoly or oligopoly power. inflation Occurs when firms stock up on goods and create an artificial shortage to increase the price of goods in order to obtain higher profits. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  In Figure 4.3, 0YF is the full employment aggregate output. It is determined at the point of intersection of the aggregate demand curve, AD and aggregate supply curve, AS0. When AS0 shift to AS1,the equilibrium aggregate output falls from 0YF to OY1, the general price level rises from P0 to P1. A further upward shift in the aggregate supply curve from AS1 to AS2 creates a further increases in price to P2. The increase in the general price level is called the cost push inflation. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Types of Inflation (iii) Monetary Inflation Monetary inflation is a sustained increase in the money supply of a country, resulting in price inflation. Money supply increases through an expansionary fiscal policy (printing more money) or expansionary monetary policy (using monetary tools – OMO, Reserve ratio & discount rate). Quantity Theory of Money shows a direct relationship between the growth of the money supply and inflation, MV = PT, where: – M is Money supply – V is Velocity of circulation – P is Price level – T is Transactions or output Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Effects of Inflation Inflation affects an economy in various ways, both positive and negative. The seriousness of the adverse effects depends on whether  Anticipated inflation: Inflation that people are more or less prepared for. Everyone will incorporate this expected higher level of inflation into his/her plan. The mild anticipated inflation brings about positive effects as it stimulates market growth, resulting in higher profits and increased production, hence a reduction in unemployment.  Unanticipated inflation: Inflation that comes as a surprise to the public or comes before the people had time to adjust fully to its presence. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Effects of Inflation (i) Unequal income distribution and wealth (ii) Reduce investment and production (iii) The amount of saving will decrease (iv) Deficit in the balance of trade (v) Breakdown in functions of money Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Effects of Inflation Effects of Unanticipated Inflation (i) Unequal income distribution and wealth - Gainers: Businessmen (earn more due to rising prices); Debtors as the purchasing power of money is reduced by the time they repay their loans; Property owners as the prices of property  faster than the average inflation rate Shareholders as they receive higher dividends when firms gain higher profits - Losers: Creditors, Wage earners/salaried workers (slow adjustment of their salary to the rising prices of goods and services), Pensioners (most badly affected as their income is fixed) and Savers (with fixed or savings deposits) (ii) Reduce investment and production due to uncertainty over future inflation - Inflation may distort the behaviour of firms and makes long-term planning difficult. Trade unions may fight for higher wages and go on strike, which will affect production. Fundamentals of Economics All Rights Reserved © Oxford Fajar Sdn. Bhd. (008974-T), 2017 1–36  Effects of Inflation (cont.) Effects of Unanticipated Inflation (iii) The amount of saving will decrease - Inflation increases the opportunity cost of holding money, causing consumers to purchase and hoard more and reduce savings (iv) Deficit in the balance of trade - A higher rate of inflation makes exports seem relatively expensive and imports seem relatively cheaper. Hence, the balance of trade will suffer. It will also affect employment in industries involved in exports. (v) Breakdown in functions of money - In a hyperinflation, money becomes less useful and loses its function as a medium of exchange and a store of value. Fundamentals of Economics All Rights Reserved © Oxford Fajar Sdn. Bhd. (008974-T), 2017 1–37 Measurements for Controlling Inflation Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measures to Control Inflation (1) Contractionary Fiscal Policy (Budget Surplus: T > G) (i) Increase in Taxes An increase in tax will reduce the disposable income of individuals income and their consumption on goods and services. This is turn will lead to a fall in prices. (ii) Decrease in Government Expenditure A reduction in government spending will directly affect aggregate demand. The government will cut the salary of its civil servant and postpone development projects to reduce the purchasing power of the public. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Contractionary Fiscal Policy Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measures to Control Inflation (2) Contractionary Monetary Policy (i) Open Market Operations The central bank may sell government securities, short-term bonds or treasury bills in the open market to the public to reduce bank deposits and credit creation of commercial banks. Money supply will reduce, hence reducing aggregate demand and price level. (ii) Raising Required Reserve Ratio In the event of inflation, the central bank will increase the required reserve ratio of all commercial banks. (iii) Raising the base lending rate/bank rate (Interest on loan) A rise in the bank rate will cause an increase in the cost of borrowing. Loans become costly to borrow and firms will reduce borrowing and spending. Aggregate will reduce and inflation rate will drop. (iv) Raising the interest rate (Interest on saving) Central bank would direct the commercial banks to raise their interest rate for deposits from public. The high interest rates will encourage more public to save and increase the saving level to decrease the aggregate demand and price level. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved Measures to Control Inflation (3) Direct Control If Inflation is due to an increase in the cost of production, the Direct control measures can be used to control cost-push inflation: (i) Income policy: to ensure wages do not rise faster than productivity.  in wages must link to  in productivity. (ii) Price control and rationing: control directly on prices of certain goods. Price pegging either by fixing a floor price or ceiling price is implemented. All prices must be labelled. (iii) Supply side policies: to increase the production of essential consumer goods, the government should give tax incentives, grant and encourage research and development (iv) Exchange rate policies to control import cost-push inflation: the value of currency to reduce the prices of imports. (v) Increase in savings: introduce compulsory provident fund or provident fund-cum-pension schemes to increase savings in controlling inflation. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved  Exercise True/False Questions 1) Inflation can be defined as a continuous increase in the general price of goods and services in the economy. 2) A chief measure of price inflation is the inflation rate and the annualised change in general price index of goods and services known as the CPI. 3) Controlling the price of certain goods involves the government implementing a ceiling price policy, which sets the maximum price of certain goods. 4) Fiscal policies to reduce inflation by having a surplus budget can be carried out through a decrease in government spending and an increase in tax revenue. 5) Demand-pull inflation occurs when aggregate demand exceeds aggregate supply. 6) Cost-push inflation refers to an increase in the general price level that is associated with an increase in the cost of production. Copyright © 2020, 2016, 2011 Pearson Education, Inc. All Rights Reserved