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chapter:

24>>

Krugman/Wells

©2009 Worth Publishers

Unemployment and Inflation

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WHAT YOU WILL LEARN IN THIS CHAPTER

How unemployment is measured and how the unemployment rate is calculated

The significance of the unemployment rate for the economy

The relationship between the unemployment rate and economic growth

The factors that determine the natural rate of unemployment

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WHAT YOU WILL LEARN IN THIS CHAPTER

The economic costs of inflation How inflation and deflation create winners and

losers Why policy makers try to maintain a stable rate of

inflation

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Unemployment Rate Employment is the number of people currently

employed in the economy, either full time or part time.

Unemployment is the number of people who are actively looking for work but aren’t currently employed.

The labor force is equal to the sum of employment and unemployment.

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Unemployment Rate The labor force participation rate is the

percentage of the population aged 16 or older that is in the labor force.

The unemployment rate is the percentage of the total number of people in the labor force who are unemployed.

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Unemployment RateThe U.S. Unemployment Rate, 1948-2008

1948 1960 1970 1980 1990 2000 2008

Year

12%

10

8

6

4

2

Unemployment Rate

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Unemployment Rate – Great Depression

http://www.econreview.com/events/ur1932b.htm

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Unemployment Rate – 2007-NOW

Click on ‘Merica to get to interactive map! Super Fun!

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Unemployment Rate Discouraged workers are nonworking people who

are capable of working but have given up looking for a job given the state of the job market.

Marginally attached workers would like to be employed and have looked for a job in the recent past but are not currently looking for work.

Underemployment is the number of people who work part time because they cannot find full-time jobs.

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Unemployment Rate

Alternative Measures of Unemployment, 1994-2008

1994 1996 1998 2000 2002 2004 2006 2008

Year

12%

10

8

6

4

2

Percentage of labor force

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Unemployment Rate

Unemployment Rates of Different Groups, 2007

White teenager

35%

30

25

20

15

10

5

0

Unemployment rate

Overall African-Amerian teenager

African-Amerian

14.4%

4.7%

31.2%

7.7%

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Unemployment RateUnemployment and Recessions, 1978-2008

1980 1985 1990 1995 2000 2005 2008

Year

12%

10

8

6

4

2

Unemployment Rate

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Types of Unemployment Frictional Unemployment – Unemployment that results

b/c it takes time for workers to search for jobs that best suit their tastes and skills.

Structural unemployment – Unemployment that results b/c of fundamental, underlying change in an economy that can create job loss for skills that are no longer in demand.

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Types of Unemployment Seasonal Unemployment – periodic and predictable job

loss that follows the calendar. Cyclical Unemployment – Jobs are gained and lost as

business cycle improves and worsens. As an economy is expanding, less unemployment, and vice versa.

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Structural UnemploymentThe Effect of a Minimum Wage on the Labor Market

Quantity of Labor

W

Wage Rate

W

F

E

QD QE QS

Structuralunemployme

nt

Minimum

wage

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Structural Unemployment Minimum wages - a government-mandated floor

on the price of labor. Unions - by bargaining for all a firm’s workers

collectively (collective bargaining), unions can often win higher wages from employers than the market would have otherwise provided when workers bargained individually. Is this a good thing?

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Structural Unemployment Efficiency wages - wages that employers set

above the equilibrium wage rate as an incentive for better performance.

Side effects of government policies - public policies designed to help workers who lose their jobs; these policies can lead to structural unemployment as an unintended side effect.

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The Natural Rate of Unemployment The natural rate of unemployment is the normal

unemployment rate around which the actual unemployment rate fluctuates. It is the unemployment rate that arises from the effects of frictional plus structural unemployment. Natural unemployment = Frictional unemployment +

Structural unemployment Cyclical unemployment is a deviation in the

actual rate of unemployment from the natural rate. Actual unemployment = Natural unemployment + Cyclical

unemployment

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Inflation Costs

Shoeleather costs More bank trips, keep less money in hand

Menu Costs Relative Price Variability & Misallocation of

resources Slow reaction/inaction to inflation-induced

changes distort relative prices skew consumer decisions Lead to misallocation of resources

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Inflation Costs - Continued

Confusion and inconvenience Money is a yardstick With inflation, tougher to measure important

variables Income or profitability…

Redistribution of Wealth With higher than expected inflation… Wealth flows from lenders to borrowers If your student loan is set at 5%, but inflation raises

to 20% Deflation in late 19th C and The Wizard of Oz

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Inflation and Deflation The nominal interest rate is the interest rate

expressed in dollar terms. The real interest rate is the nominal interest rate

minus the rate of inflation. REAL=NOMINAL-INFLATION

Disinflation is the process of bringing the inflation rate down. Volker Disinflation of 1979-1982 We’ll watch this in Commanding Heights!

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Inflation and DeflationThe Cost of Disinflation

Year 1978 1980 1982 1984 1986 1988

16%

14

12

10

8

6

4

2

Inflation rate

12%

10

8

6

Inflation rate

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The End of Chapter 24

coming attraction:Chapter 25:

Long-run Economic Growth