The Business Cycle

The business cycle is the alternating periods of economic growth and contraction experienced by the economy. The business cycle is the alternating periods of economic growth and contraction experienced by the economy. It shows the rise and fall of the economy over time. It shows the rise and fall of the economy over time.

The Business Cycle in U.S. History

Assessing the Economy as a Whole There are three basic measures of performance: There are three basic measures of performance: Output (GDP) growth Output (GDP) growth Unemployment Unemployment Inflation Inflation

GDP GDP = Gross Domestic Product (overall value of finished goods and services produced in the U.S. in a given time period) GDP = Gross Domestic Product (overall value of finished goods and services produced in the U.S. in a given time period) Business cycles are measured by changes in real GDP (GDP adjusted for inflation) Business cycles are measured by changes in real GDP (GDP adjusted for inflation)

Unemployment Unemployment is the inability of labor- force participants to find jobs. Unemployment is the inability of labor- force participants to find jobs. When production declines, jobs are eliminated. When production declines, jobs are eliminated.

The Labor Force The labor force consists of all persons over age 16 who are either working for pay or actively seeking paid employment. The labor force consists of all persons over age 16 who are either working for pay or actively seeking paid employment.

The Unemployment Rate The unemployment rate is the proportion of the labor force that is unemployed. The unemployment rate is the proportion of the labor force that is unemployed.

Unemployment in U.S. History

Seasonal Unemployment This is caused by seasonal changes: This is caused by seasonal changes: An example is when school is out in the summer and teens are looking for summer jobs. An example is when school is out in the summer and teens are looking for summer jobs.

Frictional Unemployment This is a brief period of unemployment associated with a job search. This is a brief period of unemployment associated with a job search. Examples include students with marketable skills entering the work force after graduation, and workers in between jobs. Examples include students with marketable skills entering the work force after graduation, and workers in between jobs.

Structural Unemployment This results from a mismatch between the skills of labor force participants and the skills needed by employers. This results from a mismatch between the skills of labor force participants and the skills needed by employers. For example, when the “ dot.com ” boom burst, it was difficult for programmers and software engineers to find jobs. For example, when the “ dot.com ” boom burst, it was difficult for programmers and software engineers to find jobs.

Cyclical Unemployment When there are not enough jobs to go around due to downturns in the business cycle. When there are not enough jobs to go around due to downturns in the business cycle. This is unemployment due to a recession. This is unemployment due to a recession. The Great Depression is the most striking example of cyclical unemployment. The Great Depression is the most striking example of cyclical unemployment.

The Policy Goal To try to achieve full employment. To try to achieve full employment. Full employment is the lowest rate of unemployment compatible with price stability: Full employment is the lowest rate of unemployment compatible with price stability: It is estimated to be between 4 and 6 percent. It is estimated to be between 4 and 6 percent.

Inflation The biggest fear as an economy reaches full employment is inflation. The biggest fear as an economy reaches full employment is inflation. Costs rise, pushing up prices. Costs rise, pushing up prices.

Inflation & Deflation Inflation is an increase in the average level of prices, not a change in any specific price. Inflation is an increase in the average level of prices, not a change in any specific price. Deflation is a decrease in the average level of prices of goods and services. Deflation is a decrease in the average level of prices of goods and services.

Price Effects Not all prices rise at the same rate during an inflation. Not all prices rise at the same rate during an inflation. Not everyone suffers equally from inflation.

Wealth Effects Inflation may reduce the real value of your savings. Inflation may reduce the real value of your savings.

Measuring Inflation Consumer Price Index (CPI) - a measure (index) of changes in the average price of consumer goods and services. Consumer Price Index (CPI) - a measure (index) of changes in the average price of consumer goods and services. Inflation rate - the annual rate of increase in the average price level. Inflation rate - the annual rate of increase in the average price level.

Quality Improvements Because of quality improvements and new products, the CPI is not a perfect measure of inflation. Because of quality improvements and new products, the CPI is not a perfect measure of inflation. Old products become better as a result of quality improvements. Old products become better as a result of quality improvements.

Quality Improvements A 1955 television does not compare in quality to a television today. A 1955 television does not compare in quality to a television today. Today's automobiles cost more than Henry Ford’s model T, but part of that price is reflected in the higher quality.

New Products The market basket (choice of consumer goods) used to measure the CPI changes. The market basket (choice of consumer goods) used to measure the CPI changes. Products like computers did not exist in the market basket. Products like computers did not exist in the market basket. DVD players did not exist in the 1987 CPI market basket. DVD players did not exist in the 1987 CPI market basket.