Topic 7: Economic Performance and Challenges Why should we care about how the economy is doing?

I. Gross Domestic Product Economists use a system called national income accounting to monitor the US economy. They collect/organize stats on production, income, investment, and savings. Dept of Commerce presents all the data…. Govt uses data to determine economic policies.

I. Gross Domestic Product What is Gross Domestic Product? (GDP) GDP: the dollar value of all final goods and services produced w/in a country’s borders in a given year. “Final goods and services”: Products in the form sold to consumers. Intermediate Goods: products used in the production of final goods. Govt officials use GDP to find out how the economy is performing.

I. Gross Domestic Product Nominal GDP GDP measured in current prices Real GDP GDP expressed in constant, or unchanging, prices Corrects for increase in prices Economists prefer measure of GDP that is not affected by prices Real GDP per capita: real GDP divided by total population of a country

I. Gross Domestic Product What the GDP Doesn’t Measure Nonmarket Activities Underground Economy Negative Externalities Quality of Life

II. Business Cycles Business Cycle Phases Business Cycle: a period of expansion following by a period of contraction. Not minor, day to day ups and downs but major changes in real GDP above or below normal levels. Figure 7.8: typical business cycle consists of four phrases: expansion, peak, contraction, trough.

II. Business Cycles Phrases of the Business Cycles: Expansion: a period of economic growth as measured by a rise of real GDP. Economic Growth: a steady, long-term increase in real GDP. Peak: the height of an economic expansion. Contraction: an economic decline marked by falling real GDP. Trough: the lowest point in an economic contraction. Recession: is a prolonged economic contraction. Depression: deep recession. Stagflation: decline in real GDP combined w/ a rise in prices (inflation).

III. Economic Growth Economic growth allows successive generations to have more and better good and services than their parents. Economic growth enables an entire society to make major improvements in its quality of life. The basic measure of a nation’s economic growth rate is the percentage of change in real GDP over a period of time. To satisfy the needs of a growing population, real GDP must grow at least as fast as the population does. Real GDP per capita is considered the most accurate measure of a nation’s standard of living.

III. Economic Growth The Effects of Population, Government, and Trade Population Growth Population growth does not necessarily preclude economic growth. If population grows while the supply of capital remains constant, the amount of capital per worker will shrink. This would lead to lower living standards. A nation w/ low population growth and expanding capital stock will enjoy capital deepening. Capital Deepening: the process of increasing the amount of capital per worker.

III. Economic Growth Government Govt can affect capital formation: accumulation of savings made available for investment. If govt raises tax rates, households will have less money. People will reduce saving, thus reduce money available for investment. If the govt invests the extra tax revenues in public goods/ infrastructure, this would also be good for the overall economy, this increasing investment indirectly.

III. Economic Growth Foreign Trade Trade can support economic growth by helping countries focus on producing what they are best at producing. Trade is essential for economies to specialize in what they are most efficient at producing.

IV. Unemployment Types of Unemployment Frictional Unemployment Type of unemployment that occurs when people take time to find a job. Changing jobs… time to find right job A worker receiving unemployment insurance faces somewhat less financial pressure to find a new job immediately.

IV. Unemployment Type of Unemployment Structural Employment Type of unemployment that occurs when workers’ skills do not match those needed for the jobs available. Ex: Agricultural to industrial to service economy. Causes: development of new technology; discovery of new resources; changes in consumer demand; globalization; lack of education.

IV. Unemployment Type of Unemployment Seasonal Unemployment Type of unemployment that occurs as a result of harvest schedules, vacations, or when industries make seasonal shifts in their production schedules. Summer jobs, migrant workers

IV. Unemployment Type of Unemployment Cyclical Unemployment Unemployment that rises during economic downturns and falls when the economy improves. EX: Great Depression How is cyclical unemployment different from seasonal unemployment?

IV. Unemployment The Unemployment Rate The percentage of the nation’s labor force that is unemployed. To calculate the unemployment rate: take the number of people unemployed divided by number of people in the civilian labor force multiplied by 100

IV. Unemployment The Goal of Full Employment Full employment: is the level of employment reached when no cyclical unemployment exists. Nearly everyone who wants a job has a job. Underemployed: working at a job for which one is overqualified or working part-time when full-time work is desired. Zero unemployment is not an achieveable… 4% to 6% is normal, or “full employment.”

IV. Unemployment Discouraged Workers: Someone who wants a job but as given up looking. Discouraged workers do not appear in the unemployment rate determined by the Bureau of Labor Statistics b/c they are not actively looking for work. If underemployed/discouraged workers were included, rate would be much higher than reported.

V. Inflation & Deflation Inflation: a general increase in prices across an economy. Over the years, prices generally go up. As prices rise, the purchasing power of money declines. Purchasing Power: the ability to purchase goods and services. Why does inflation cause purchasing power to decrease over time?

V. Inflation & Deflation Price Index: a measurement that shows how the average price of a standard group of goods Consumer Price Index: a price index determined by measuring the price of a standard group of goods mean to represent the “market basket” of a typical urban consumer. By looking at the CPI, consumers, businesses, and govt can compare the cost of a group of goods this month w/ what the same or a similar group cost months or even years ago. Every ten years, the items are updated to account for shifting habits.

V. Inflation & Deflation Inflation Rate: the percentage rate of change in price level over time. Core Inflation Rate: rate of inflation excluding effects of food and energy prices In order to study long term trends in the inflation rate, economists set aside temporary spikes in food & fuel prices Hyperinflation: inflation that is out of control.

V. Inflation & Deflation Effects of Inflation Effects on Purchasing Power Inflation can erode purchasing power Effects on Income If wage increases match the inflation rate, a worker’s real income stays the same. If workers’ wages do not increase as much as inflation does, they are in a worse economic position. Fixed income: income that does not increase even when prices go up.

V. Inflation & Deflation Effect on Interest Rates When a bank’s interest rate matches the inflation rate, savers break even. The amount they gain from interest is taken away from inflation. If the inflation rate is higher than the bank’s interest rate, savers lose money.

V. Inflation & Deflation Deflation: a sustained drop in the price level.

VI. Poverty & Income Distribution What is Poverty? The Office of Management and Budget determines the income level, known as the poverty threshold, required to meet the family’s minimum needs. Poverty Threshold: the income level below which income is insufficient to support a family or household. 2013: a family of four w/ two children was $23, 550. Poverty Rate: is the percentage of people who live in households w/ income below the official poverty threshold.

VI. Poverty & Income Distribution What Causes Poverty? Changes in Family Structure Where People Live Unequal Treatment Low-Wage Service Jobs Lack of Education

VI. Poverty & Income Distribution In Addition… Income Distribution: how the nation’s total income is distributed among its population. Food Stamp Program (SNAP): helps low-income people buy food. [Supplemental Nutrition Assistance Program] Earned Income Tax Credit: refundable tax credit that low-income families with children receive when they file their federal income tax return. Temporary Assistance for Needy Families (TANF): federal govt provides block grants (lump sums) to states; states design/implement programs… workfare

Fighting Poverty in the US 1933: Federal Emergency Relief Administration 1935: Social Security Administration; Aid to Families with Dependent Children 1964: Headstart Preschool Education 1965: Medicare & Medicaid 1975: Earned Income Tax Credit 1996: Temporary Assistance to Needy Families (TANF) 2001: White House Office of Faith-Based and Community Initiatives: Charitable Choice 2008: EmergencyUnemployment Compensation Program ** Chart: page 313