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Lecture Four

Lecture Four. Macroeconomic Concerns: Unemployment, Inflation, and Growth. Macroeconomic Concerns. Aggregate Price Level Aggregate Output Total Employment Rest of the World. Inflation and Prices. Price level : a measure of the behavior of all prices in the economy

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Lecture Four

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  1. Lecture Four Macroeconomic Concerns: Unemployment, Inflation, and Growth

  2. Macroeconomic Concerns Aggregate Price Level Aggregate Output Total Employment Rest of the World

  3. Inflation and Prices Price level: a measure of the behavior of all prices in the economy Price level is a yardstick -- a tool for comparison of prices over time. Inflation: the rate of change in the price level

  4. Measuring the Price Level:Price Indexes CPI: Consumer Price Index: a measure of the price of a market basket of goods purchased monthly by the typical urban consumer. GDP deflator: a measure of the prices of all goods produced in GDP basket. PPI: Producer Price Index: a measure of prices that producers receive for products at all stages in the production process.

  5. Production in Muletown In Muletown, three goods are produced: Mule hides; Espresso; Sandals. A market basket is 2 Mule hides, 5 Espressos, and 1 pair of sandals.

  6. Production in Muletown • 1997 • Price Quantity • $3 10 • $5 15 • $7 20 • 1998 • Price Quantity • $4 20 • $4 10 • $20 15 Mule hides Espresso Sandals What is the price level in Muletown?

  7. Calculating the CPI Multiply the price of the good by the quantity in the market basket and add over all goods. In 1997: $3(2) + $5(5) + $7(1) = $38 In 1998: $4(2) + $4(5) + $20(1) = $48 Rate of Inflation: ($48 - $38)/$38 = 26%.

  8. GDP Deflator Nominal GDP: GDP measured in current year prices Real GDP: GDP measured in constant prices (prices derived from a base year)

  9. GDP in Muletown • 1997 • $245 • 1998 Nominal GDP Real GDP GDP deflator $245 = $3(10) + $5(15) + $7(20)

  10. GDP in Muletown • 1997 • $245 • 1998 • $420 Nominal GDP Real GDP GDP deflator $420 = $4(20) + $4(10) + $20(15)

  11. GDP in Muletown • 1997 • $245 • $245 • 1998 • $420 Nominal GDP Real GDP GDP deflator $245 = $3(10) + $5(15) + $7(20)

  12. GDP in Muletown • 1991 • $245 • $245 • 1992 • $420 • $215 Nominal GDP Real GDP GDP deflator • $215 = $3(20) + $5(10) + $7(15) • Note that we have used 1991 prices.

  13. GDP in Muletown • 1991 • $245 • $245 • 100 • 1992 • $420 • $215 Nominal GDP Real GDP GDP deflator 100 = 100 * $245/$245

  14. GDP in Muletown • 1991 • $245 • $245 • 100 • 1992 • $420 • $215 • 195 Nominal GDP Real GDP GDP deflator • 195 = 100*$420/$215

  15. 1991 • $245 • $245 • 100 • 1992 • $420 • $215 • 195 GDP in Muletown Nominal GDP Real GDP GDP deflator • Rate of Inflation = (195 - 100)/100 • = 95%

  16. Nominal Quantity Price Level/100 Real Quantity = The Real/Nominal Relationship

  17. Costs of Inflation Changing distribution of income indexed income: income rises with the rate of inflation Lending distortions Administrative costs and inefficiencies

  18. Aggregate Output (GDP) Gross Domestic Product (GDP) is the dollar value of all final goods and services produced. Final good: a product which is ready to be used by consumers

  19. Business Cycle Periodic movements in output, prices, and employment Business cycles are not created equal. Duration Severity

  20. Business Cycle GDP rises and falls over short spans of time At any point in time, it may be above or below its long run trend These fluctuations define the business cycle

  21. Parts of the Business Cycle Aggregate Output Peak Recession Expansion time Trough

  22. Recession-1 A recession is a period in which real GDP declines for at least two consecutive quarters. Most recessions are marked by falling output and rising unemployment.

  23. Recession-2 • Growth rate of GDP falls • Firms decrease production • Unemployment rises Unemploy- ment GDP

  24. The Recession of 1980-1982 Unemployment GDP Growth

  25. Depression: a prolonged and deep recession Great Depression: 1929-1933 The Great Depression was a period of severe economic contraction and high unemployment that began in 1929 and continued throughout the 1930’s. Depression

  26. Great Depression Unemployment GDP Growth

  27. Expansion • GDP growth rate rises • Firms increase production • Unemployment falls Unemploy- ment GDP

  28. Real GDP in the U.S., 1959 - 1994 5,500.0 5,000.0 4,500.0 4,000.0 3,500.0 Real GDP 3,000.0 2,500.0 2,000.0 1,500.0 1959 1963 1967 1971 1975 1979 1983 1987 1991 1994 Year

  29. Real GDP in the U.S., 1959 - 1994 5,500.0 5,000.0 4,500.0 4,000.0 3,500.0 Real GDP 3,000.0 Trend Line 2,500.0 2,000.0 1,500.0 1959 1963 1967 1971 1975 1979 1983 1987 1991 1994 Year

  30. Unemployment The unemployment rate refers to the percentage of people in the labor force who can’t find a job. Labor Force: people who are actively seeking or are currently holding a job

  31. Unemployment Rate in Selected Countries

  32. Defining Unemployment - 1 Employed: Any person 16 years old or older, (1) who works for pay, either for someone else or in their own business, for one or more hours a week, (2) who works without pay for 15 hours a week in a family business, or (3) who has a job but has been temporarily absent, with or without pay.

  33. Defining Unemployment - 2 Unemployed: A person 16 years or older who is not working, is available for work, and has made specific efforts to find work during the previous four weeks. Labor force: The number of people employed plus the number of unemployed.

  34. Defining Unemployment - 3 Unemployed Labor Force Labor Force = Employed + Unemployed Population = Labor Force + Not in Labor Force Unemployment Rate = Labor Force Participation Rate = Labor Force Population

  35. New Entrants: 11% • Re-entrants: 26% • Job Leavers: 12% • Job Losers: 63% Unemployment Pool Entrants 5% Unemployment • Job Finders • Discouraged • Workers • Labor Force • Leavers

  36. Types of Unemployment Cyclical due to business cycle movements in GDP Frictional due to job search activities Structural due to changes in economic institutions geographic displacement, technological change, discrimination

  37. Natural Rate of Unemployment The natural rate of unemployment refers to the unemployment that occurs as a normal part of the functioning of the economy. Sometimes taken as the sum of frictional unemployment and structural unemployment. (The rate of unemployment that occurs at full employment).

  38. Costs of Unemployment Personal costs Societal costs Economic costs

  39. Government Policies for Influencing the Macroeconomy Fiscal Policy: Government policies regarding taxes and expenditures Monetary Policy: The tools used by the Federal Reserve to control the money supply Supply-side Policies: policies that focus on aggregate supply and increasing production

  40. Aggregate Demand Aggregate demand represents the total demand for goods and services in an economy.

  41. Aggregate Demand Curve Price Level P1 AD Y1 Aggregate Output

  42. Aggregate Supply Aggregate supply represents the total supply of goods and services in an economy.

  43. Aggregate Supply Curve Price Level AS P1 Aggregate Output Y1

  44. Equilibrium Aggregate equilibrium is a level of prices and GDP such that the quantity of goods and services purchased equals the overall quantity of goods and services produced

  45. Equilibrium Price Level AS Equilibrium P* AD Y* Aggregate Output

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