Unemployment, Inflation, Unemployment, Inflation, NAIRUNAIRU

UnemploymentUnemployment

Civilian labor force: worked 1 hour Civilian labor force: worked 1 hour for pay in last week unless for pay in last week unless sick/vacation/strikesick/vacation/strike Not military, not students, not retired, Not military, not students, not retired,

not not discourageddiscouraged workers workers # unemployed / civilian labor force x # unemployed / civilian labor force x

100= unemployment rate100= unemployment rate

Types of UnemploymentTypes of Unemployment

Frictional: looking for better job (good thing)Frictional: looking for better job (good thing) Seasonal: it’s rainingSeasonal: it’s raining Structural: skills no longer usefulStructural: skills no longer useful

New tech, new resources, loss of old resources, New tech, new resources, loss of old resources, changes in demand, globalization, lack of educationchanges in demand, globalization, lack of education

““creative destruction”creative destruction”

Cyclical: changes in biz cycleCyclical: changes in biz cycle unemployment unemployment

Underemployed: overqualified or part-time Underemployed: overqualified or part-time when want full-timewhen want full-time

Full/Natural Rate UnemploymentFull/Natural Rate Unemployment

Impossible (undesirable) 0% Impossible (undesirable) 0% unemploymentunemployment

Elimination of cyclical Elimination of cyclical unemploymentunemployment full full employment/natural rateemployment/natural rate

Potential outputPotential output

Economic Costs UnemploymentEconomic Costs Unemployment

Okun’s Law: every 1% actual U > Okun’s Law: every 1% actual U > natural ratenatural rate GDP gap (actual less GDP gap (actual less than potential) of 2%than potential) of 2%

Unequal burdens: occupation, age, Unequal burdens: occupation, age, race, gender, education, durationrace, gender, education, duration

Noneconomic costs: depression, Noneconomic costs: depression, political impactspolitical impacts

InflationInflation

Rising price level (average)Rising price level (average) Consumer Price Index: “prices of a Consumer Price Index: “prices of a

market basket of some 300 market basket of some 300 consumer goods and services consumer goods and services purchased by a typical urban purchased by a typical urban consumer”consumer” Hasn’t been updated in 30+ years; Hasn’t been updated in 30+ years;

undercounts housing + medicalundercounts housing + medical Producer Price IndexProducer Price Index

Reduces purchasing powerReduces purchasing power

TypesTypes

InflationInflation HyperinflationHyperinflation DeflationDeflation DisinflationDisinflation

CausesCauses

1) Demand-pull (AD up): “too much 1) Demand-pull (AD up): “too much spending chasing too few goods”spending chasing too few goods” Wage-price spiralWage-price spiral

2) Cost-push (AS down): increase cost 2) Cost-push (AS down): increase cost productionproduction Problem: which is it? DP indefinite, CP self-Problem: which is it? DP indefinite, CP self-

limiting (limiting ( recession recession eventually costs back eventually costs back downdown recovery) recovery)

Stagflation: stagnation + inflationStagflation: stagnation + inflation 3) Quantity theory: too many dollar bills 3) Quantity theory: too many dollar bills

(more later)(more later)

Redistribution EffectsRedistribution Effects Anticipated inflation: less importantAnticipated inflation: less important offset w/ offset w/

interest rates or wage raiseinterest rates or wage raise Unanticipated is problemUnanticipated is problem 1) Fixed-nominal-income receivers (fixed income)1) Fixed-nominal-income receivers (fixed income)

COLA: Cost Of Living AdjustmentCOLA: Cost Of Living Adjustment 2) Savers/holders of currency (inflation tax)2) Savers/holders of currency (inflation tax) 3) Debtors vs. Creditors3) Debtors vs. Creditors

Including GovIncluding Gov really want to control inflation? really want to control inflation? 4) Economy: risk + uncertainty4) Economy: risk + uncertainty inefficient use inefficient use

resourcesresources 5) Investment: a) expected rate of return – 5) Investment: a) expected rate of return –

inflation rate = real return; b) inflation premium: inflation rate = real return; b) inflation premium: interest rates risesinterest rates rises more expensive borrow to more expensive borrow to investinvest less investment less investment less capital less capital less less growthgrowth

Relationship U and I?Relationship U and I?

NAIRU: Non-Accelerating Inflation NAIRU: Non-Accelerating Inflation Rate of UnemploymentRate of UnemploymentEssentially = natural rate of Essentially = natural rate of

unemploymentunemployment Level of U at which I won’t changeLevel of U at which I won’t change

∆∆I = (NAIRU - Unemployment I = (NAIRU - Unemployment Rate)/Sacrifice RatioRate)/Sacrifice Ratio

Say NAIRU = 5 and U is at 7%Say NAIRU = 5 and U is at 7%

So: 5-7/2= -1So: 5-7/2= -1 Inflation falls 5% Inflation falls 5% 4 4

Shifts in NAIRUShifts in NAIRU

Policies/trends that increase Policies/trends that increase movement workers from one job to movement workers from one job to anotheranother lower NAIRU lower NAIRU

Trends that make wages downwardly Trends that make wages downwardly flexible (union decline, globalization, flexible (union decline, globalization, etc.)etc.) lower NAIRU lower NAIRU

Phillips CurvePhillips Curve

U Rate

Inflation Rate

Neo-ClassicalNeo-Classical

Rational ExpectationsRational Expectations no trade-off no trade-off U and I in long-run, just choice of U and I in long-run, just choice of what level of inflationwhat level of inflation

Inflation Rate

PClr = Natural-rate U

PCsrUR