1. Roger LeRoy Miller Economics Today Chapter 7 The Macroeconomy: Unemployment, Inflation, and Deflation

2. Slide 7-2 Most Americans alive today have never experienced a time when the average of all prices did not go up, year in and year out. The inflation rate has been dropping in recent years. In some countries the average of all prices has been falling. Introduction

3. Slide 7-3 Explain how the U.S. government calculates the official unemployment rate Discuss the types of unemployment Describe how price indexes are calculated and review the key types of price indexes Learning Objectives

4. Slide 7-4 Distinguish between nominal and real interest rates Evaluate who loses and who gains from inflation Understand key features of business fluctuations Learning Objectives

5. Slide 7-5 Chapter Outline Unemployment Inflation and Deflation Changing Inflation and Unemployment: Business Fluctuations Changing Inflation and Unemployment: Business Fluctuations

6. Slide 7-6 Although the United States is considered a highly advanced industrialized nation, less and less of its employment is involved in manufacturing? Did You Know That...

7. Slide 7-7 Question –Who are the unemployed? Unemployment –The total number of adults (aged 16 years or older) who are willing and able to work and who are actively looking for work but have not found a job Unemployment

8. Slide 7-8 Question –What are the costs of unemployment? Unemployment

9. Slide 7-9 Answer –Lost output Early 1990s unemployment rate was 7% Factory output was 80% of potential Lost output was 4% of total production or $275 billion of goods and services that could have been produced –Personal psychological impact Unemployment

10. Slide 7-10 Question –How would you show the cost of unemployment on a production possibilities curve? Unemployment

11. Slide 7-11 Consumer Goods Capital Goods Production Possibilities K1K1 C1C1

12. Slide 7-12 Source: U.S. Department of Labor, Bureau of Labor Statistics Figure 7-1 More than a Century of Unemployment

13. Slide 7-13 The unemployment rate is the percentage of the measured labor force that is unemployed. Unemployment

14. Slide 7-14 In April 2000 the unemployment rate was 4.1 percent. Question –How is the unemployment rate calculated? Unemployment

15. Slide 7-15 Labor Force –Individuals aged 16 years or older who either have jobs or are looking and available for jobs Unemployment Labor force = the employed + the unemployed

16. Slide 7-16 135.4*= 141.2+5.8 Unemployment *U.S., millions of people; as of April 2000 Labor force = the employed + the unemployed Unemployment rate =  = 100 unemployed labor force =  = 100 = 4.1% 5.8 141.2

17. Slide 7-17 The arithmetic determination of unemployment –Job Leavers = Job Finders Unemployment rate is unchanged –Job Leavers > Job Finders Unemployment rate increases Unemployment

18. Slide 7-18 Adult Population Figure 7-2 Source: U.S. Department of Labor, Bureau of Labor Statistics

19. Slide 7-19 The Logic of the Unemployment Rate Figure 7-3

20. Slide 7-20 Stocks –The quantity of something (unemployed) measured at a point in time Flow –A quantity measured over time (job leavers, job finders) Unemployment

21. Slide 7-21 Visualizing Stocks and Flows Figure 7-4

22. Slide 7-22 Unemployment categories –Job loser –Reentrant –Job leaver –New entrant Unemployment

23. Slide 7-23 Job Loser –An individual whose employment was involuntarily terminated or who was laid off 40–60% of the unemployed Unemployment

24. Slide 7-24 Reentrant –An individual who has worked a full-time job before but left the labor force and has now reentered it looking for a job 20–30% of the unemployed Unemployment

25. Slide 7-25 Job Leaver –An individual who voluntarily ended employment Less than 10% to around 15% of the unemployed Unemployment

26. Slide 7-26 New Entrant –An individual who has never worked a full-time job for two weeks or longer 10–13% of the unemployed Unemployment

27. Slide 7-27 Duration of unemployment –37.1%—one month –31.8%—two months –16.3%—longer than six months –Average duration—15.2 weeks over the last decade Unemployment

28. Slide 7-28 Question –What is likely to happen to the duration of unemployment during a downturn in the economy? Unemployment

29. Slide 7-29 Discouraged Workers –Individuals who have stopped looking for a job because they are convinced they will not find a suitable one Question –How does the existence of discouraged workers bias the unemployment rate? Unemployment

30. Slide 7-30 Labor Force Participation Rate –The proportion of working-age individuals who are employed or seeking employment Unemployment

31. Slide 7-31 Source: U.S. Department of Labor, Bureau of Labor Statistics Labor Force Participation Rates by Sex Figure 7-5

32. Slide 7-32 Question –Is there an economic explanation for the increase in the female labor force participation rate? Unemployment

33. Slide 7-33 The major types of unemployment –Frictional –Structural –Cyclical –Seasonal Unemployment

34. Slide 7-34 Frictional Unemployment –Results from the fact that workers must search for appropriate job offers Unemployment

35. Slide 7-35 Structural Unemployment –Results from a poor match of workers’ abilities and skills with current requirements of employers Unemployment

36. Slide 7-36 Cyclical Unemployment –Results from business recessions that occur when aggregate (total) demand is insufficient to create full employment Unemployment

37. Slide 7-37 Seasonal Unemployment –Results from the seasonal pattern of work in specific industries Unemployment

38. Slide 7-38 Question –Does full employment mean that everybody has a job? Unemployment

39. Slide 7-39 Full Employment –An arbitrary level of unemployment that corresponds to “normal” friction in the labor market Unemployment

40. Slide 7-40 Natural Rate of Unemployment –The unemployment rate that is estimated to prevail in the long run when all workers and employers have fully adjusted to any changes in the economy –When seasonally adjusted the natural rate of unemployment should only take into account frictional and structural unemployment Unemployment

41. Slide 7-41 Question –Does an increase in the unemployment rate necessarily mean there has been a decrease in the employment rate? Unemployment

42. Slide 7-42 Inflation –An upward movement in the average level of prices Deflation –A downward movement in the average level of prices Inflation and Deflation

43. Slide 7-43 Purchasing Power –The value of money for buying goods and services –Varies with prices and income Inflation and Deflation

44. Slide 7-44 Nominal value –Price expressed in today’s dollars Real value –Value expressed in purchasing power Inflation and Deflation

45. Slide 7-45 Question –Is a 30-second ad during the Super Bowl really 40 times more expensive today (about $2.00 million) compared to 1967 ($50,000)? Inflation and Deflation

46. Slide 7-46 Answer –Depends on what has happened to the price level and the size of the audience during this time –Prices: fourfold increase –Audience: doubled Inflation and Deflation

47. Slide 7-47 Analysis –Adjusting for viewership and inflation the cost per viewer is about five times what it was in 1967—not 25 times. Inflation and Deflation

48. Slide 7-48 Measuring inflation –Price Index The cost of today’s market basket of goods expressed as a percentage of the cost of the same market basket during a base year Inflation and Deflation Price index =  X 100 cost today of market basket cost of market basket in base year

49. Slide 7-49 Market Basket –Representative bundle of goods and services Base Year –The point of reference for comparison of prices in other years. Inflation and Deflation

50. Slide 7-50 1992Cost of2002Cost of MarketPriceMarketPriceMarket BasketperBasketperBasket at CommodityQuantityUnitin 1992Unit2002 Prices Corn100 bushels$4$400$8$800 Microcomputers2$500$1,000$425$850 Calculating a Price Index for a Two-Good Market Basket Totals$1,400$1,650 Price index =  = 100 = 117.86 $1,650 $1,400 (1992 = base year)

51. Slide 7-51 Inflation and Deflation Real-world price indexes –Consumer Price Index (CPI) –Producer Price Index (PPI) –GDP Deflator

52. Slide 7-52 Inflation and Deflation Consumer Price Index (CPI) –A statistical measure of a weighted average of prices of a specified set of goods and services purchased by wage earners in urban areas –Market basket is based on a consumer expenditure survey –Methodology problems Substitution effect and the fixed quantity index Quality changes New products

53. Slide 7-53 Producer Price Index (PPI) –A statistical measure of a weighted average of prices of commodities that firms purchase from other firms –Generally for non-retail markets –Used as a leading indicator CPI –PPIs for: Food materials Intermediate goods Finished goods Inflation and Deflation

54. Slide 7-54 GDP Deflator –A price index measuring the changes in prices of all final goods and services produced in the economy –Broadest measure of prices –Not based on a fixed market basket Inflation and Deflation

55. Slide 7-55 Inflation and Deflation in U.S. History Figure 7-6 Source: U.S. Department of Labor, Bureau of Labor Statistics

56. Slide 7-56 Anticipated versus Unanticipated Inflation –The effects of inflation on individuals depend upon which type of inflation exists. Inflation and Deflation

57. Slide 7-57 Anticipated Inflation –The rate of inflation that the majority of individuals believe will occur Unanticipated Inflation –Inflation that comes as a surprise to individuals in the economy Inflation and Deflation

58. Slide 7-58 Inflation and interest rates –Nominal Rate of Interest The market rate of interest expressed in today’s dollars –Real Rate of Interest The nominal rate of interest minus the anticipated rate of inflation Inflation and Deflation

59. Slide 7-59 Real interest rate –Nominal interest Rate = 10% –Expected inflation Rate = 5% –Real Rate = 10% - 5% = 5% Inflation and Deflation

60. Slide 7-60 Does inflation necessarily hurt everyone? –Inflation affects people differently Unanticipated positive inflation –Creditor loses –Debtors gains Inflation and Deflation

61. Slide 7-61 Protecting against inflation –Cost-of-living adjustments (COLAs) Clauses in contracts that allow for increases in specified nominal values to account of changes in the cost of living Inflation and Deflation

62. Slide 7-62 The resource cost of inflation –Repricing, or menu, cost of inflation The cost associated with recalculating prices and printing new price lists when there is inflation Inflation and Deflation

63. Slide 7-63 Business Fluctuations –The ups and downs in overall business economic activity National income Employment Price level Changing Inflation and Unemployment: Business Fluctuations

64. Slide 7-64 Expansion –A business fluctuation in which overall business activity is rising at a more rapid rate than previously or at a more rapid rate than the overall historical trend for the nation Changing Inflation and Unemployment: Business Fluctuations

65. Slide 7-65 Contraction –A business fluctuation during which the pace of national economic activity is slowing down Changing Inflation and Unemployment: Business Fluctuations

66. Slide 7-66 Recession –A period of time during which the rate of growth of business activity is consistently less than its long-term trend or is negative Depression –An extremely severe recession Changing Inflation and Unemployment: Business Fluctuations

67. Slide 7-67 The Typical Course of Business Fluctuations Figure 7-7

68. Slide 7-68 National Business Activity, 1880–Present Figure 7-8 Source: American Business Activity from 1790 to Today, 67th Edition, AmeriTrust Co., January 1996, plus author’s projections.

69. Slide 7-69 Explaining business fluctuations: external shocks –War –Weather patterns –Oil shock Changing Inflation and Unemployment: Business Fluctuations

70. Slide 7-70 Leading Indicators –Factors that typically occur before, or “lead” changes in business activity –Leading indicators can be used to identify external shocks. Changing Inflation and Unemployment: Business Fluctuations

71. Slide 7-71 Inflation rates have declined worldwide Some countries such as Japan and China have deflation Issues and Applications: Is the World Facing the Danger of Deflation?

72. Slide 7-72 Some causes for concern –Lower commodity prices could devastate emerging economies –Unions might not anticipate falling prices Don’t confuse deflation with falling relative prices Issues and Applications: Is the World Facing the Danger of Deflation?

73. Slide 7-73 Web Links The following Web links appear in the margin of this chapter in the textbook: –http://www.imf.org/externalhttp://www.imf.org/external –http://www.nber.orghttp://www.nber.org

74. Slide 7-74 How the U.S. government calculates the official unemployment rate Types of Unemployment –Frictional –Structural –Cyclical –Seasonal Summary Discussion of Learning Objectives Unemployment rate =  = 100 unemployed labor force

75. Slide 7-75 How price indexes are calculated and the key price indexes –A price index is the cost of today’s market of goods expressed as a percentage of the cost of the same markets basket during a base year –Key price indexes CPI PPI GDP Deflator Summary Discussion of Learning Objectives

76. Slide 7-76 Summary Discussion of Learning Objectives The nominal versus the real interest rate –Real interest rate = nominal interest rate - anticipated rate of inflation Those who lose from inflation and those who gain –Losers are creditors –Gainers are debtors Key features of business fluctuations –Contractions –Expansions

77. End of Chapter Chapter 7 The Macroeconomy: Unemployment, Inflation, and Deflation