Chapter 22 Unemployment and Inflation © 2009 South-Western/ Cengage Learning

Unemployment –Personal cost –Cost on the economy Measuring unemployment –Civilian non-institutional adult population –Labor force Employed + Unemployed –Unemployment rate Percentage of unemployed in the labor force 2

Unemployment Adult population –Employed Working full time or part time –Not working Unemployed (looking for work) Not in labor force –Retired; Students; Don’t want to work –Discouraged workers 3

Exhibit 1 The adult population sums: employed, unemployed, and those not in labor force, June 2007 (in millions) 4 LABOR FORCE (153.1) Employed (146.2) NOT WORKING (85.5) Not in labor force (78.6) Unemployed (6.9) Labor force= employed + unemployed Not working = not in the labor force + unemployed Adult population = employed + unemployed + not in the labor force

Unemployment Labor force participation rate –Number in labor force / Adult population Unemployment over time –Rise during contractions –Fall during expansions –Overall downward trend (1980s to 2000) Growing economy Fewer teenagers in workforce 5

Exhibit 2 The US unemployment rate since

Unemployment Unemployment in various groups –Age Higher unemployment among teenagers –Race –Gender –Geography –Occupation 7

Exhibit 3 (a) Unemployment rates for 20 years of age and older 8

Exhibit 3 (b) Unemployment rates for 16 to 19 years of age 9

High school dropouts, labor market dropouts High unemployment rates –Poorly educated young black males 2000, 65% of high-school dropouts –Not working »Unemployed »Not looking for jobs »In prison 2004, 72% of high-school dropouts –Not working 10

High school dropouts, labor market dropouts Possible causes –Failing schools –Absent parents –Racial discrimination –Fewer blue collar jobs –Growing competition –Stricter child-support enforcement –Rising incarceration rate –Subculture: downplay the value of work 11

Unemployment Varies by occupation –Blue-collar workers Higher unemployment Varies across regions –Certain occupations Dominate certain regions 12

Exhibit 4 Unemployment rates differ: US metropolitan areas 13

Sources of Unemployment Frictional unemployment –Bring together employers and job seekers –Doesn’t last long –Better match workers and jobs Seasonal unemployment –Seasonal changes 14

Sources of Unemployment Structural unemployment –Mismatch of skills or geographic location –Problem Cyclical unemployment –Increases during recessions –Decreases during expansions 15

Full Employment Full employment –No cyclical unemployment –Some unemployment Frictional Structural Seasonal –Estimates: 4-6% 16

Unemployment Compensation Unemployment benefits –Half of the unemployed –Criteria Lost job Looking for work –Time limit: 6 months –40% of wages –May reduce the incentive to find work 17

International Comparisons Unemployment trends –US: down –Japan: up Low unemployment : Job security Bankruptcy –Western Europe: remained high Higher unemployment benefits Last longer Government regulations 18

Exhibit 5 Since 1980, the US unemployment rate fell, Europe’s remained high, and Japan’s rose 19 Europe U.S. Japan

Problems with Unemployment Figures Understate unemployment Discouraged workers –Not counted Underemployed –Only part-time (want full-time) –Overqualified Overstate unemployment Looking for work –Qualify for unemployment benefits Only full-time (want part-time) Underground economy 20

Inflation Sustained increase in price level Annual inflation rate Percentage increase in price level Hyperinflation Extremely high inflation Deflation Sustained decrease in price level Disinflation Decrease in inflation 21

Hyperinflation in Brazil Price level in million times higher than in 1988 People – don’t want to hold cruzeiro Workers Paid daily; purchases Exchanges for a stable currency Real Cruzeiro: larger denominations Facilitate purchase Reduce productivity Dropped since

Two Sources of Inflation Increase in AD –Demand-pull inflation –Increased government spending –Social programs Decrease in AS –Cost-push inflation –Increase cost of production Push up the price level –Stagflation 23

Exhibit 6 Inflation caused by shifts of AD and AS curves 24 Aggregate output0 Price level P’ P AS AD’ AD (a)Demand-pull inflation: inflation caused by an increase of aggregate demand An outward shift of the aggregate demand to AD’ “pulls” the price level up from P to P’. Aggregate output0 Price level P’ P AS AD (b) Cost-push inflation: inflation caused by a decrease of aggregate supply A decrease of aggregate supply to AS’ “pushes” the price level up from P to P’. AS’

A Historical Look: Inflation; Price Level Price level, US, since 1913 –Steady increase Inflation or deflation, US, since 1913 –Before 1950s High inflation – war related –Followed by deflation –Since 1950s Inflation: 3.8% per year 25

Exhibit 7 (a) Consumer price index since

Exhibit 7 (b) Inflation since

Anticipated vs. Unanticipated Inflation Anticipated inflation –Expected inflation If inflation > expected –Sellers lose –Buyers gain If inflation < expected –Sellers gain –Buyers lose 28

Inflation Unpopular Imposes transaction costs Obscures relative price changes Differ across metropolitan areas –Housing prices 29

Exhibit 8 Average annual inflation between 2002 and 2006 differed across US metropolitan areas 30

International Comparisons of Inflation First half of 1980s –Declining inflation Mid-1980s to early 1990s –Rising inflation Mid-1990s –Lower trend Similar trend –Overall: lower inflation 31

Exhibit 9 Inflation rates in major economies have trended lower over the last quarter century 32 Europe U.S. Japan

Inflation and Interest Rates Interest –Dollar amount Paid by borrowers to lenders Interest rate As percentage Supply of loanable funds –Upward sloping Demand of loanable funds –Downward sloping 33

Inflation and Interest Rates Nominal interest rate –Current dollars Real interest rate =Nominal interest rate – Inflation rate Expected real interest rate 34

Exhibit 10 The market for loanable funds 35 Loanable funds per period0 Nominal interest rate i D S The upward sloping supply curve, S, shows that more loanable funds are supplied at higher interest rates. The downward-sloping demand curve, D, shows that the quantity of loanable funds demanded is greater at lower interest rates. The two curves intersect to determine the market interest rate, i.

Why is Inflation Unpopular? Pay higher prices –Inflation = Penalty Receive higher receipts –Higher income ‘well-deserved’ reward Fixed nominal income –Unadjusted for inflation Social Security –Adjusted for inflation (COLA) 36