© 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. Fernando & Yvonn Quijano Prepared by: Chapter 20 Unemployment and Inflation

© 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 2 of 36 Alcatel-Lucent Contributes to Unemployment 20.1Define unemployment rate and labor force participation rate and understand how they are computed. 20.2Identify the three types of unemployment. 20.3Explain what factors determine the unemployment rate. 20.4Define price level and inflation rate and understand how they are computed. 20.5Use price indexes to adjust for the effects of inflation. 20.6Distinguish between the nominal interest rate and the real interest rate. 20.7Discuss the problems that inflation causes. Learning Objectives When total employment in the United States declined during 2001, Lucent contributed to the decline.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 3 of 36 Labor force The sum of employed and unemployed workers in the economy. Unemployment rate The percentage of the labor force that is unemployed. Measuring the Unemployment Rate and the Labor Force Participation Rate Learning Objective 20.1 Discouraged workers People who are available for work but have not looked for a job during the previous four weeks because they believe no jobs are available for them. The Household Survey

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 4 of 36 Learning Objective 20.1 Measuring the Unemployment Rate and the Labor Force Participation Rate Figure 20-1 The Employment Status of the Civilian Working-Age Population, May 2008 The Household Survey

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 5 of 36 Learning Objective 20.1 The unemployment rate measures the percentage of the labor force that is unemployed. Measuring the Unemployment Rate and the Labor Force Participation Rate The labor force participation rate measures the percentage of the working-age population in the labor force. The Household Survey

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 6 of 36 Solved Problem 20-1 What Happens if You Include the Military? Learning Objective 20.1 In the BLS household survey, people on active military service are not included in the totals for employment, the labor force, or the working-age population. Suppose people in the military were included in these categories.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 7 of 36 Learning Objective 20.1 Measuring the Unemployment Rate and the Labor Force Participation Rate Problems with Measuring the Unemployment Rate Although the BLS reports the unemployment rate measured to the tenth of a percentage point, it is not a perfect measure of the current state of joblessness in the economy. The unemployment rate provides some useful information about the employment situation in the country, but it is far from an exact measure of joblessness in the economy.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 8 of 36 Learning Objective 20.1 FIGURE 20-2 Trends in the Labor Force Participation Rates of Adult Men and Women Since 1948 Measuring the Unemployment Rate and the Labor Force Participation Rate Trends in Labor Force Participation

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 9 of 36 Learning Objective 20.1 What Explains the Increase in “Kramers”? Making the Connection Why do more men seem to be adopting Kramer’s lifestyle?

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 10 of 36 Learning Objective 20.1 Measuring the Unemployment Rate and the Labor Force Participation Rate Unemployment Rates for Demographic Groups Figure 20-3 Unemployment Rates in the United States by Demographic Group, May 2008

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 11 of 36 Learning Objective 20.1 Table 20-1 Duration of Unemployment LENGTH OF TIME UNEMPLOYEDPERCENTAGE OF TOTAL UNEMPLOYED Less than 5 weeks38.2% 5 to 14 weeks to 26 weeks weeks or more18.3 Measuring the Unemployment Rate and the Labor Force Participation Rate How Long Are People Typically Unemployed?

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 12 of 36 Learning Objective 20.1 Table 20-2 Household and Establishment Survey Data for April and May 2008 Measuring the Unemployment Rate and the Labor Force Participation Rate The Establishment Survey: Another Measure of Employment HOUSEHOLD SURVEYESTABLISHMENT SURVEY APRILMAYCHANGE APRILMAYCHANGE EMPLOYED 146,331,000146,046,000−285,000137,803,000137,754,000-49,000 UNEMPLOYED 7,626,0008,487, ,000 LABOR FORCE 153,957,000154,534, ,000 UNEMPLOYMENT RATE 5.0%5.5%+0.5%

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 13 of 36 Learning Objective 20.1 Table 20-3 Measuring the Unemployment Rate and the Labor Force Participation Rate Job Creation and Job Destruction Over Time Establishments Creating and Eliminating Jobs, June - September 2007 NUMBER OF ESTABLISHMENTS NUMBER OF JOBS ESTABLISHMENTS CREATING JOBS Existing establishments1,519,0005,821,000 New establishments367,0001,428,000 ESTABLISHMENTS ELIMINATING JOBS Existing establishments1,585,0006,134,000 Closing establishments359,0001,350,000

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 14 of 36 Types of Unemployment Learning Objective 20.2 FIGURE 20-4 The Annual Unemployment Rate in the United States, 1950–2007

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 15 of 36 Learning Objective 20.2 Frictional Unemployment and Job Search Frictional unemployment Short-term unemployment that arises from the process of matching workers with jobs. Types of Unemployment Structural unemployment Unemployment arising from a persistent mismatch between the skills and characteristics of workers and the requirements of jobs. Cyclical unemployment Unemployment caused by a business cycle recession. Cyclical Unemployment Structural Unemployment

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 16 of 36 Learning Objective 20.2 Natural rate of unemployment The normal rate of unemployment, consisting of frictional unemployment plus structural unemployment. Full Employment Types of Unemployment

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 17 of 36 Learning Objective 20.2 How Should We Categorize the Unemployment at Alcatel-Lucent? Making the Connection The people who lost their jobs at Alcatel-Lucent fit into more than one category of unemployment.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 18 of 36 Learning Objective 20.3 Unemployment Insurance and Other Payments to the Unemployed Government Policies and the Unemployment Rate Explaining Unemployment In the United States and most other industrial countries, the unemployed are eligible for unemployment insurance payments from the government. In the United States, these payments are equal to about half the average wage. Unemployment insurance helps the unemployed maintain their income and spending, which lessens the personal hardship of being unemployed and also helps reduce the severity of recessions.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 19 of 36 Learning Objective 20.3 International Comparisons Government Policies and the Unemployment Rate Explaining Unemployment Figure 20-5 Average Unemployment Rates in the United States, Canada, Japan, and Europe, 1998–2007

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 20 of 36 Learning Objective 20.3 Minimum Wage Laws Government Policies and the Unemployment Rate Explaining Unemployment In 1938, the federal government enacted a national minimum wage law. If the minimum wage is set above the market wage determined by the demand and supply of labor, the quantity of labor supplied will be greater than the quantity of labor demanded. Economists agree that the current minimum wage is above the market wage for some workers, but they disagree on the amount of unemployment that has resulted.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 21 of 36 Learning Objective 20.3 Efficiency Wages Efficiency wage A higher-than- market wage that a firm pays to increase worker productivity. Labor Unions Explaining Unemployment Labor unions are organizations of workers that bargain with employers for higher wages and better working conditions for their members.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 22 of 36 Learning Objective 20.3 Why Does Costco Pay Its Workers So Much More Than Wal-Mart Does? Making the Connection Costco’s relatively high wages and health benefits reduce employee turnover and raise morale and productivity.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 23 of 36 Measuring Inflation Learning Objective 20.4 Price level A measure of the average prices of goods and services in the economy. Inflation rate The percentage increase in the price level from one year to the next.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 24 of 36 Measuring Inflation Learning Objective 20.4 The Consumer Price Index Figure 20-6 The CPI Market Basket, December 2007

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 25 of 36 Measuring Inflation Learning Objective 20.4 Consumer price index (CPI) An average of the prices of the goods and services purchased by the typical urban family of four. The Consumer Price Index BASE YEAR (1999) PRODUCTQUANTITYPRICEEXPENDITURESPRICE EXPENDITURES (ON BASE-YEAR QUANTITIES)PRICE EXPENDITURES (ON BASE-YEAR QUANTITIES) Eye examinations 1$50.00 $ $85.00 Pizzas Books Total$750.00$900.00$915.00

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 26 of 36 Measuring Inflation Learning Objective 20.4 The Consumer Price Index Don’t Let This Happen to YOU! Don’t Miscalculate the Inflation Rate FORMULAAPPLIED TO 2008APPLIED TO 2009 CPI =

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 27 of 36 Measuring Inflation Learning Objective 20.4 Is the CPI Accurate? Substitution bias. Increase in quality bias. Outlet bias. New product bias. It is important that the CPI be as accurate as possible, but there are four biases that make changes in the CPI overstate the true inflation rate:

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 28 of 36 Measuring Inflation Learning Objective 20.4 The Producer Price Index Producer price index (PPI) An average of the prices received by producers of goods and services at all stages of the production process.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 29 of 36 Using Price Indexes to Adjust for the Effects of Inflation Learning Objective 20.5 Falling Real Wages at Alcatel-Lucent For some purposes, we are interested in tracking changes in an economic variable over time rather than in seeing what its value would be in today’s dollars. In that case, to correct for the effects of inflation, we can divide the nominal variable by a price index and multiply by 100 to obtain a real variable. Nominal average hourly earnings are often referred to as the nominal wage, and real average hourly earnings are often referred to as the real wage.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 30 of 36 Solved Problem 20-5 Calculating Real Average Hourly Earnings Learning Objective 20.5 YEAR NOMINAL AVERAGE HOURLY EARNINGS CPI ( = 100) 2005$ YEAR NOMINAL AVERAGE HOURLY EARNINGS CPI ( = 100) REAL AVERAGE HOURLY EARNINGS ( DOLLARS) 2005$ $

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 31 of 36 Real versus Nominal Interest Rates Learning Objective 20.6 Nominal interest rate The stated interest rate on a loan. Real interest rate The nominal interest rate minus the inflation rate. Real interest rate = Nominal interest rate − Inflation rate Deflation A decline in the price level.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 32 of 36 Real versus Nominal Interest Rates Learning Objective 20.6 FIGURE 20-7 Nominal and Real Interest Rates, 1970–2007

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 33 of 36 Does Inflation Impose Costs on the Economy? Learning Objective 20.7 Inflation Affects the Distribution of Income The Problem with Anticipated Inflation Menu costs The costs to firms of changing prices. The Problem with Unanticipated Inflation The extent to which inflation redistributes income depends in part on whether the inflation is anticipated—in which case consumers, workers, and firms can see it coming and can prepare for it— or unanticipated—in which case they do not see it coming and do not prepare for it. When the actual inflation rate turns out to be very different from the expected inflation rate, some people gain, and other people lose. This outcome seems unfair to most people because they are either winning or losing only because something unanticipated has happened. This apparently unfair redistribution is a key reason why people dislike unanticipated inflation.

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 34 of 36 Learning Objective 20.7 Why a Lower Inflation Rate Is Like a Tax Cut for Alcatel-Lucent’s Bondholders Making the Connection PRINCIPAL REAL INTEREST RATE INFLATION RATE NOMINAL INTEREST RATE $1,0004%6%10% $1,0004%2%6% INFLATION RATE NOMINAL INTEREST PAYMENT TAX PAYMENT AFTER-TAX INTEREST PAYMENT ADJUSTMENT FOR INFLATION REAL AFTER-TAX INTEREST PAYMENT 6%$100– $25= $75– $60= $15 2%$60– $15= $45– $20= $25

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 35 of 36 An Inside LOOK Making Sense of Employment Data Jobs Data Signal Growth Is Easing but Still Solid

Chapter 20: Unemployment and Inflation © 2009 Prentice Hall Business Publishing Economics Hubbard/O’Brien UPDATE EDITION. 36 of 36 Consumer price index (CPI) Cyclical unemployment Deflation Discouraged workers Efficiency wage Frictional unemployment Inflation rate Labor force Labor force participation rate Menu costs Natural rate of unemployment Nominal interest rate Price level Producer price index (PPI) Real interest rate Structural unemployment Unemployment rate K e y T e r m s