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ECON week 4 notes

by: Gwendolyn Cochran

ECON week 4 notes Econ 1012

Gwendolyn Cochran

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These notes cover: Measuring the unemployment rate, the labor force participation rate, and the employment-population ratio. Types of Unemployment Explaining Unemployment Measuring Inflation ...
Dr. John Volpe
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This 8 page Class Notes was uploaded by Gwendolyn Cochran on Tuesday February 2, 2016. The Class Notes belongs to Econ 1012 at George Washington University taught by Dr. John Volpe in Spring 2016. Since its upload, it has received 15 views. For similar materials see Macroeconomics in Economcs at George Washington University.

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Date Created: 02/02/16
Econ Week 4 Notes     Measuring the unemployment rate, the labor force participation rate, and the  employment­population ratio.     U.S. Department of Labor reports ​estimates​ of employment, unemployment, and  other statistics related to the labor force each month.  ➢ Labor force:​ The sum of employed and unemployed workers in the economy.  ➢ Unemployment rate​ : the percentage of the labor force that is unemployed.  Each month, the U.S. Bureau of the Census conducts the ​ Current Population Survey  (a.k.a. the​ousehold survey)​.  ● 60,000 households selected to be “representative”  ● Household members of “working age” (16+ years old)  ● Asked about employment during “reference week”  ● Also asked about recent job­search activities    People are then classified as:  ❏ Employed​ : Worked 1+ hours in reference week (or were temporarily away from  their jobs).  ❏ Unemployed​ : Someone who is not currently at work but who is available for  work and who has actively looked for work during the previous month  ❏ Not in the labor force, if neither of the above apply    We can increase the labor force by  ● retiring later; as the population becomes more healthy people in the work force  will work longer  ● reproducing more; more workers  ○ this is a problem because population is starting to fall as people have  less children   ● Increase citizenship; less illegal workers = more people counting towards the  americna workforce       The unemployment rate measured by the BLS is not a perfect measure of  joblessness. Why?  ● It may u​nderstate​ unemployment  ○ Distinguishing between people who are u ​nemployed  ​and ​ ot in the labor  force requires judgment (should we exclude “discouraged workers”?)  ○ Only measures employment, not intensity of employment (full­time vs.  part­time; some people are ​underemployed) ​  ● It may o​verstate unemployment:  ○ People might claim falsely to be actively looking for work  ○ May claim not to be working to evade taxes or keep criminal activity  unnoticed  ● Even if all surveys are truthfully and accurately answered, we do not expect the  numbers to be identical between the two surveys:  ○ Different groups are measured  ○ All surveys have measurement errors  ○ But we get a more complete picture by considering both surveys.  Okun's Law: reduce the unemployment rate by 1% you can get a 2.5% rise in GDP                                            Types of Unemployment:  The three types of unemployment are:  ● Frictional unemploymen: Short­term unemployment that arises from the  process of matching workers with jobs.  ○ Frictional unemployment occurs mostly because ojob searc: entering  or re­entering the labor force, or ​etween jobs​  ○ It also occurs because oseasonal unemployment: some jobs fluctuate in  availability due to seasonal demand, like ski­instructor or farm­work.  ○ To control for this, the BLS releases raw​easonally­adjusted  employment figures.  ○ Some frictional unemployment actuallncreases economic efficiency by  allowing for better job matches.  ● Structural unemployment:Unemployment that arises from a persistent  mismatch between the skills and attributes of workers and the requirements of  jobs.  ○ Structural unemployment is associated with longer unemployment spells.  ○ Workers who are structurally unemployed may require retraining in order  to obtain “modern” jobs.  ● Cyclical unemployment: Unemployment caused by a business cycle recession.  ○ In normal recoveries after a recession, unemployment due to cyclical  factors will fall.  When all unemployment is due to frictional and structural factors, we say that the  economy is atfull employmen. This means there will always ​ome  unemployment in the economy.  ❖ Economists call this the natural rate of unemployment: The normal rate of  unemployment, consisting of frictional unemployment and structural  unemployment.  ❖ The general consensus of economists is that the U.S. natural rate of  unemployment is somewhere between 5 and 6 percent.        Explaining Unemployment   Governments often attempt to directly influence unemployment.  Example: The federal government’s ​rade Adjustment Assistance program  offers training to workers whose firms laid them off as a result of competition from  foreign firms. This would reduce structural unemployment.  Other policies try to reduce frictional unemployment, for example by subsidizing new  hires. However some other government policies probabl​ncrease​unemployment,  like:  ● Unemployment insurance  ● Minimum wage laws  Suppose you have just lost your job. You want to find another, and have two main  options:  ➔ Take a new low­paying job immediately  ➔ Search for a better job  Ifunemployment insurance payments​  are available to you, you will probably be more  likely to choose the second option.  In the U.S., unemployment insurance payments are typically not very generous,  compared with other high­income countries; and there are relatively short time­limits.  Many economists believe that the more generous unemployment insurance benefits  available in other high­income countries like Germany and France have contributed  to higher unemployment rates in those countries.  Minimum wage laws are designed to help low­income workers; but raising the wage  that firms have to pay will likely result in them hiring fewer workers.    Labor unions are organizations of workers that bargain with employers for higher  wages and better working conditions.  Unions are probably not a significant cause of unemployment in the United States.  While they raise the wage, only about 9% of private­sector workers are unionized,  limiting the effect that unions have on the wider economy.  Efficiency wage:​  An above­market wage that a firm pays to increase workers’  productivity.  Firms want to get the best performance they can out of their workers. Sometimes  monitoring workers is difficult or costly; an alternative is to pay them a relatively high  wage, making them motivated to perform well in order to keep their job.  These above­market wages are probably another reason why unemployment exists  even when cyclical unemployment is zero.                            Measuring Inflation  Last chapter, we used th​ DP deflato​to measure changes in the price level. By  measuring changes in the prices of diffebaskets of goods​ we would come up  with different measures.  Two commonly­used measures are:  ● The consumer price index (CPI)  ○ a measure of the average change over time in the prices a typical urban  family of four pays for the goods and services they purchase  ○ To calculate the CPI in a given year, we need:  ■ A ​basket of goods  ■ The cost to purchase the basket of goods inbase year  ■ The prices in the current year  ○   ○ Some potential problems with the CPI include:  ■ Substitution bia​ Consumers may change their purchasing habits  away from goods that have increased in price.  ■ Increase in quality bi Products like cars and computers have  become more durable and better quality over time. It is hard to  isolate the pure­inflation part of price increases.  ■ New product bias​: The basket of goods changes only every 10  years. There is a delay to including new goods like cell phones.  ■ Outlet bias: Increases in purchases from discount stores like Sam’s  Club and Costco or the internet are not incorporated into the CPI; it  still uses full­retail price.  ○ For these reasons, economists believe the CPI overstates true inflation  by 0.5 to 1 percentage point.  ● The producer price index (PPI)  ○ An average of the prices received by producers of goods and services at  all stages of the production process.  ○ It is conceptually similar to the CPI, in that it uses a basket of goods, but  the goods are those used by producers.  ○ The PPI can give early warning of future movements in consumer prices.    Nominal Interest Rates versus Real Interest Rates  When you lend money to someone, they typically agree to pay you back w ​ ith  interes. If thinterest rat is 6%, for example, then a $1,000 loan paid back in a  year will be paid back with $1,060.  This 6% is the nominal interest rate: the stated interest rate on a loan. But in that  year’s time, prices will have risen; so the $1,060 next year is not worth the same as  $1,060 this year.  We can adjust for inflation by calculating the real interest rate, equal to the nominal  interest rate minus the inflation rate. (Note: this is an approximation, but it is quite  accurate for low interest and inflation rates.)  If prices rise by 2% from this year to next, then your real interest rate on the loan is  only 4%. This more accurately reflects the cost of borrowing and lending money.    Does Inflation Impose Costs on the Economy?  inflation affects the distribution of income and wealth  ● It is unlikely that everyone’s wages would increase at the same rate. Many  people have long­term contracts specifying their wage in nominal terms, for  example.  ● Also, nominal assets like cash decrease in value when there is significant  inflation. If you hold much of your wealth in cash, then inflation causes a  significant decrease in real wealth for you.  Even if inflation is anticipated, it still causes problems:  ➔ People and firms have increased real costs of holding cash.  ➔ Firms have menu costs: the cost to firms of changing prices. Frequently  changing prices are inconvenient for firms (and consumers too!) to deal with.  ➔ Investors are taxed on n​ominal returns, rather than real returns; so this can  increase the tax due.  When people cannot predict the rate of inflation, they find it hard to make good  borrowing and lending decisions.  ➢ For example, in 1980 banks were charging 18% or more on home loans  because the rate of inflation was very high. People who bought homes were  locked into high rates even when inflation subsided.  On the other hand, if banks lend money at a low rate and then high inflation takes  place, the real interest rate they receive may be zero or negative; thus the risk of  inflation makes banks wary of lending.  Unpredictable inflation makes borrowing and lendin​ risky. Many economic indicators like the unemployment rate are only created from sample  data, so they are not exact measures of economic well­being. The BLS does not  estimate separately tcauses​of unemployment; but these are still useful to  understand.  The price levcompares prices in a given year to those in a base​nflation  represents changes in price levels. Do not confuse the two.     


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