Chapter 26: Business Cycles, Unemployment, and Inflation

Alternating increases and decreases in economic activity over time Phases of the business cycle Peak Recession Trough Expansion

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Business Cycles, Unemployment, and Inflation26McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.The Business CycleAlternating increases and decreases in economic activity over timePhases of the business cyclePeakRecessionTroughExpansionLO126-*The Business CycleLevel of real outputTimePeakPeakPeakRecessionRecessionExpansionExpansionTroughTroughGrowthTrendLO126-*Causation: A First GlanceBusiness cycle fluctuationsEconomic shocksPrices are “sticky” downwardsEconomic response entails decreases in output and employmentLO126-*UnemploymentUnder 16and/or Institutionalized (71.4 million)Not inlaborforce (81.7 million)Employed(139.9 million)Unemployed(14.3 million)Total population (307.3 million)Labor force (154.2 million) Unemployment rate = 14,265,000 154,142,000X 100 = 9.3% Unemployment rate = # of unemployed labor forceX 100LO226-*UnemploymentCriticisms of unemploymentInvoluntary part-time workers counted as if full-timeDiscouraged workers are not counted as unemployedLO226-*Types of UnemploymentFrictional unemploymentIndividuals searching for jobs or waiting to take jobs soonStructural unemploymentOccurs due to changes in the structure of the demand for laborCyclical unemploymentCaused by the recession phase of the business cycleLO326-*Definition of Full EmploymentNatural Rate of Unemployment (NRU)Full employment level of unemploymentCan vary over timeDemographic changesChanging job search methodsPublic policy changesActual unemployment can be above or fall below the NRULO326-*Economic Cost of UnemploymentGDP GapGDP gap = actual GDP – potential GDPCan be negative or positiveOkun’s LawEvery 1% of cyclical unemployment creates a 2% GDP gap LO326-*Economic Cost of UnemploymentLO3Economic Cost of Unemployment26-*Unequal BurdensOccupationAgeRace and ethnicityGenderEducationDurationLO326-*Noneconomic CostsLO3Loss of skills and loss of self-respectPlummeting moraleFamily disintegrationPoverty and reduced hopeHeightened racial and ethnic tensionsSuicide, homicide, fatal heart attacks, mental illnessCan lead to violent social and political change26-*Global PerspectiveLO326-*InflationGeneral rise in the price levelInflation reduces the “purchasing power” of moneyConsumer Price Index (CPI)LO3CPIPrice of the Most Recent MarketBasket in the Particular YearPrice estimate of the MarketBasket in 1982-1984=x100CPI207.3 - 201.6201.6=x100= 2.8%26-*Types of InflationDemand-Pull inflationExcess spending relative to outputCentral bank issues too much moneyCost-Push inflationDue to a rise in per-unit input costsSupply shocksLO326-*Redistribution Effects of InflationNominal incomeUnadjusted for inflationReal incomeNominal income adjusted for inflationAnticipated vs. unanticipated incomePercentagechange in real income=Percentage change in nominal incomePercentage change inprice levelLO326-*Who is Hurt by Inflation?Fixed-income receiversReal incomes fallSaversValue of accumulated savings deterioratesCreditorsLenders get paid back in “cheaper dollars”LO326-*Who is Unaffected by Inflation?Flexible-income receiversCOLAsSocial Security recipientsUnion membersDebtorsPay back the loan with “cheaper dollars”LO326-*Does Inflation Affect Output?Cost-push inflationReduces real outputRedistributes a decreased level of real incomeDemand-pull inflationOne view is that zero inflation is bestAnother view is that mild inflation is bestLO326-*