Copyright © 2006 Pearson Education Canada A First Look at Macroeconomics PART 7Macroeconomic Overview 19 CHAPTER

Copyright © 2006 Pearson Education Canada Objectives After studying this chapter, you will able to  Describe the origins and issues of macroeconomics  Describe the trends and fluctuations in economic growth  Describe the trends and fluctuations in jobs and unemployment  Describe the trends and fluctuations in inflation  Describe the trends and fluctuations in government and international deficits  Identify the macroeconomic policy challenges and describe the tools available for meeting them

Copyright © 2006 Pearson Education Canada What Will Your World Be Like? Will tomorrow’s world be more prosperous than today? Will jobs be plentiful? Will the cost of living be stable? Will the government and the nation go into deficit again?

Copyright © 2006 Pearson Education Canada Origins and Issues of Macroeconomics Economists began to study economic growth, inflation, and international payments during the 1750s. Modern macroeconomics dates from the Great Depression, a decade ( ) of high unemployment and stagnant production throughout the world economy. John Maynard Keynes book, The General Theory of Employment, Interest, and Money, began the subject.

Copyright © 2006 Pearson Education Canada Origins and Issues of Macroeconomics Short-Term Versus Long-Term Goals Keynes focused on the short-term—on unemployment and lost production. “In the long run,” said Keynes, “we’re all dead.” During the 1970s and 1980s, macroeconomists became more concerned about the long-term—inflation and economic growth.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Economic growth is the expansion of the economy’s production possibilities—an outward shifting PPF. We measure economic growth by the increase in real GDP. Real GDP—real gross domestic product—is the value of the total production of all the nation’s farms, factories, shops, and offices, measured in the prices of a single year.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Economic Growth in Canada Figure 19.1 shows real GDP in Canada from 1961 to The figure highlights:  Growth of potential GDP  Fluctuations of real GDP around potential GDP

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Growth of Potential GDP Potential GDP is the value of real GDP when all the economy’s labour, capital, land, and entrepreneurial ability are fully employed. During the 1970s and early 1980s, the growth of real GDP per person slowed—a phenomenon called the productivity growth slowdown.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Fluctuations of Real GDP Around Trend Real GDP fluctuates around potential GDP in a business cycle—a periodic but irregular up-and-down movement in production.

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Growth and Fluctuations Every business cycle has two phases: 1. A recession 2. An expansion and two turning points: 1. A peak 2. A trough Figure 19.2 on the next slide illustrates these features of the business cycle.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Canada’s most recent business cycle.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations A recession is a period during which real GDP decreases for at least two successive quarters. An expansion is a period during which real GDP increases. A growth recession occurs when real GDP growth rate is positive but slows so that real GDP is below potential GDP.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations And the most recession …

Copyright © 2006 Pearson Education Canada Growth and Fluctuations and three growth recessions.

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Growth and Fluctuations Figure 19.3 shows the long-term growth trend and cycles.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations Economic Growth Around the World Figure 19.4(a) shows the growth rate of real GDP per person in Canada alongside those of the world’s three largest economies.

Copyright © 2006 Pearson Education Canada Growth and Fluctuations  During the 1960s, Japan’s growth rate was much faster than the others.  After the 1970s, all four growth rates were similar.  Canada’s growth rate has been a bit less than the U.S. growth rate.

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Growth and Fluctuations Figure 19.4(b) compares Canada’s economic growth with that in several countries and regions from 1980 to Asia has been the fastest growing region in the global economy.

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The Lucas Wedge and Okun Gap How costly are the productivity slowdown and the lost output as real GDP fluctuates around potential GDP in a business cycle? To answer that question we measure:  The Lucas wedge  The Okun gap Growth and Fluctuations

Copyright © 2006 Pearson Education Canada The Lucas Wedge The Lucas wedge is the accumulated loss of output from a slowdown in the growth rate of real GDP per person. Figure 19.5(a) shows that the Canadian Lucas wedge that arises from the productivity slowdown of the 1970s is $11.5 trillion or 10 year’s GDP at the 2005 level. Growth and Fluctuations

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The Okun Gap The Okun gap is the gap between potential GDP and actual real GDP and is another name for the output gap. Figure 19.5(b) shows the Okun gap from recessions since 1974 is $173 billion or about 2 months of real GDP in Growth and Fluctuations

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Benefits and Costs of Economic Growth The Lucas wedge is a measure of the dollar value of lost real GDP if the growth rate slows. This cost translates into real goods and services. It is a cost in terms of an inferior Canadian health-care system, fewer child-care services, worse roads, and less to spend on cleaner air, cleaner lakes, and more trees. But fast growth is also costly. Its main costs is forgone current consumption. To sustain growth, resources must be allocated to advancing technology and accumulating capital rather than to current consumption. Growth and Fluctuations

Copyright © 2006 Pearson Education Canada Jobs and Unemployment Jobs The Canadian economy creates about 220,000 additional jobs a year, on the average. But the number fluctuates. Since 2000, the economy created 1.6 additional jobs, but during the 1991 recession, 260,000 jobs disappeared.

Copyright © 2006 Pearson Education Canada Jobs and Unemployment Unemployment Unemployment is a state in which a person does not have a job but is available for work, willing to work, and has made some effort to find work within the previous four weeks. The labour force is the total number of people who are employed and unemployed. The unemployment rate is the percentage of the people in the labour force who are unemployed. A discouraged worker is a person available for work, willing to work, but who has given up the effort to find work.

Copyright © 2006 Pearson Education Canada Jobs and Unemployment Unemployment in Canada Figure 19.6 shows the unemployment rate in Canada from 1926 to  During the 1930s, the unemployment rate hit 20 percent.  The lowest rate occurred during World War II at 1.2 percent.

Copyright © 2006 Pearson Education Canada Jobs and Unemployment  During recent recessions, the unemployment rate increased but not as high as in the Great Depression.  The unemployment rate is never zero. Since World War II, it has averaged 6.7 percent.

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Jobs and Unemployment Unemployment Around the World Figure 19.7 compares the unemployment rate in Canada with those in Japan, Western Europe, and the United States. Unemployment is higher in Canada, on the average, than in the other countries shown.

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Jobs and Unemployment Why Unemployment Is a Problem Unemployment is a serious economic, social, and personal problem for two main reasons:  Lost production and incomes  Lost human capital The loss of a job brings an immediate loss of income and production—a temporary problem. A prolonged spell of unemployment can bring permanent damage through the loss of human capital.

Copyright © 2006 Pearson Education Canada Inflation Inflation is a process of rising prices. We measure the inflation rate as the percentage change in the average level of prices or the price level. The Consumer Price Index—the CPI—is a common measure of the price level.

Copyright © 2006 Pearson Education Canada Inflation Inflation in Canada  Was low in the first half of the 1960s.  Increased in the 1970s and early 1980s.  Was lowered in the 1980s and 1990s.  Kept inside a target band since early 1990s.

Copyright © 2006 Pearson Education Canada Inflation The inflation rate fluctuates, but it is always positive— the price level has not fallen during the years shown in the figure. A falling price level—a negative inflation rate—is called deflation.

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Inflation Inflation Around the World Figure 19.9(a) shows the inflation rate in Canada compared with other countries.  Canadian inflation has been similar to that in other industrial countries.

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Inflation Figure 19.9(b) shows the inflation rate in industrial countries has been much lower than that in developing countries.

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Inflation Is Inflation a Problem? Unpredictable changes in the inflation rate are a problem because they redistribute income in arbitrary ways between employers and workers and between borrowers and lenders. A high inflation rate is a problem because it diverts resources from productive activities to inflation forecasting. Eradicating it is costly because it brings a period of greater than average unemployment.

Copyright © 2006 Pearson Education Canada Surpluses and Deficits Government Budget Surplus and Deficit If a government collects more in taxes than it spends, it has a government budget surplus. If a government spends more than it collects in taxes, it has a government budget deficit.

Copyright © 2006 Pearson Education Canada Surpluses and Deficits Figure 19.10(a) shows the changing surplus and deficit of the federal and provincial governments in Canada since  Persistent federal deficits during the 1970s through the 1990s and  Federal surpluses since 1998.

Copyright © 2006 Pearson Education Canada Surpluses and Deficits Provincial governments had  Surpluses during the 1960s and 1970s and  Large deficits in the early 1990s.

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Surpluses and Deficits International Surplus and Deficit If a nation imports more than it exports, it has an international deficit. If a nation exports more than it imports, it has an international surplus. The balance on the current account is the balance of exports minus imports, plus net interest paid to and received from the rest of the world.

Copyright © 2006 Pearson Education Canada Surpluses and Deficits Figure 19.10(b) shows Canada’s current account balance from 1960 to  Persistent current account deficit most of the time  Surpluses during the past five years

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Macroeconomic Policy Challenges and Tools Five widely agreed policy challenges for macroeconomics are to: 1.Reduce unemployment 2.Boost economic growth 3.Stabilize the business cycle 4.Keep inflation low 5.Reduce government and international deficits

Copyright © 2006 Pearson Education Canada Macroeconomic Policy Challenges and Tools Two broad groups of macroeconomic policy tools are Fiscal policy—making changes in tax rates and government spending Monetary policy—changing interest rates and changing the amount of money in the economy The government conducts fiscal policy. The Bank of Canada conducts monetary policy.

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