Introduction Economic Growth, Business n Macroeconomics is the study of the aggregate economy. Cycles, Unemployment, and n The four central issues are: Inflation q growth q business cycles Chapter 5 q unemployment q inflation. 2 Two Frameworks: The Long Run and Growth the Short Run n Issues of growth are considered in a long-run n Generally the Canadian economy is growing framework. or expanding, at average annual rate of 4 percent over the last 130 years (although about 2.5 – 3.5 percent recently). n Business cycles are generally considered in a short-run framework. n The primary measurement of growth is change in real gross domestic product n Inflation and unemployment fall within both frameworks. (real GDP) – the market value of goods and services stated in the prices of a given year. 3 4 Growth Growth n This average annual growth rate is called the n The growth trend we now take for granted secular growth rate. started at the end of the of the18th century. n Since an economy’s population is increasing, n At about the same time, markets and a useful measure of growth is change in per capita real output. democracies became the primary organizing structures of society. n Per capita real output is real GDP divided by the total population. 5 6 Benefits and Costs of Growth Benefits and Costs of Growth n Per capita economic growth allows everyone n The costs of growth include pollution, in society, on average to have more. resource exhaustion, and destruction of natural habitat. n Growth, or predictions of growth, allows governments to avoid hard questions. n Since many believe the environmental costs of growth are important, the result is often an environmental-economic growth stalemate. n A growing economy creates jobs. 7 8 Average Annual Per Capita Income, Business Cycles 1820-2000 Growth Rates Income levels (1990 international Dollars) n The business cycle is the upward and 1820-1950 1950-2000 1820-2000 1820 1950 2000 downward movement of economic activity The World 0.9 1.8 1.1 675 2,108 5,672 that occurs around the growth trend. Western Europe 1.1 2.5 1.5 1,269 6,546 19,846 North America 1.6 1.8 1.6 1,233 9,463 26,224 n There are different policies regarding Japan 0.8 4.8 1.9 675 1,927 20,438 business cycles: Eastern Europe 1.1 1.0 1.0 803 3,162 5,967 q Classical economists generally favourlaissez- Latin America 1.0 1.4 1.1 671 2,478 6,797 faire or noninterventionist policies. China -0.2 3.4 0.8 600 439 3,442 q Keynesians generally favour activist policies. Other Asia 0.3 2.4 0.9 560 848 3,269 Africa 0.6 0.8 0.6 400 1,307 1,291 9 10 Canadian Business Cycles Phases of the Business Cycle n The top of the business cycle is called the peak. q A boom is a very high peak, representing a big jump in output. n The downturn is the phenomenon of economic activity starting to fall from a peak. q A recession is a decline in output that persists for more than two consecutive quarters in a year. q A depression is a deep recession. 11 12 Phases of the Business Cycle Phases of the Business Cycle n A trough is the bottom of the recession or depression. Expansion Recession Expansion Peak Boom n As total output starts to expand, the economy Downturn comes out of the trough into an upturn, Upturn Secular which may turn into an expansion. growth Total Output Trough trend n An expansion is an upturn that lasts at least 0 two consecutive quarters of a year. Jan.- Apr.- July- Oct.- Jan.- Apr.- July- Oct.- Jan.- Apr.- Mar June Sept. Dec. Mar June Sept. Dec. Mar June 13 McGraw -Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved. Why Business Cycles Occur Why Business Cycles Occur n Recessions and expansions are caused n Since the late 1940s, compared to prior primarily by the demand side of the economy. years: n A debate exists about whether these q Downturns and panics have generally been less severe. fluctuations can and should be reduced. q The duration of business cycles has increased. q The average length of expansions has increased while the n Most economists believe that potential depressions should be offset by economic average length of contractions has decreased. policy. n Most economists believe that business n This general view was built into economic policy after the Great Depression of the fluctuations are less severe because of the 1930s. stronger government role in the economy. 15 16 Leading Indicators Leading Indicators n Leading indicators tell us what's likely to n Some leading indicators include: happen 12 to 15 months from now. q Average workweek for production workers in manufacturing. q Index of housing starts. n To be a leading indicator, a variable must q U.S. composite leading indicators. reflect economic agents’ view of the future. q Money supply (M1) divided by the price index. q New orders for durable goods. q Retail orders for durable goods. q Durable goods sales, excluding furniture and appliances. 17 18 Unemployment Unemployment as a Social Problem n The unemployed are people who are willing n The Industrial Revolution created the and able to work but are not working. possibility of cyclical unemployment. n Cyclical unemployment results from n What had previously been a family problem, fluctuations in economic activity. became a social problem. n Structural unemployment is caused by economic restructuring making some skills obsolete. 19 20 Unemployment as Government’s Unemployment as Government’s Problem Problem n As capitalism evolved, capitalist societies no longer saw the fear of hunger as an n Initially government regarded 3 percent acceptable solution to unemployment. unemployment as full employment. n Full employment – an economic climate in which everyone who wants a job can have n The 3 percent was made up of frictional one. unemployment which is the unemployment n The Federal Unemployment Insurance Act of caused by new entrants into the job market 1940 assigned government the responsibility and people quitting a job just long enough to for providing assistance to the unemployed. look for and find another job. 21 22 Unemployment as Government’s Why the Target Rate of Problem Unemployment Changed n The target rate of unemployment has n The target or natural rate of changed over time for the following reasons: unemployment is the lowest sustainable rate of unemployment that policymakers believe is q Demographics have changed – different age achievable under existing institutions. groups have different rates of unemployment. q Social and institutional structures have changed. n Since the 1980s the target rate of unemployment has been between 6 and 8 percent. q Governmental institutions also changed. 23 24 Whose Responsibility Is Whose Responsibility Is Unemployment? Unemployment? n Classical economists believe that individuals n According to Classical economists, a person are responsible for their own jobs. is unemployed because the equilibrium wage is below his or her reservation wage . n Classical economists believe the equilibrium wage adjusts to supply and demand n Reservation wage is the minimum wage imbalances, so anyone not working at the required to induce a person to work. current wage is voluntarily unemployed. 25 26 Whose Responsibility Is How Is Unemployment Measured? Unemployment? n The unemployment rate is published by n Keynesian economists believe that if wages Statistics Canada – it is the number of do not adjust quickly enough involuntary unemployed individuals divided by the unemployment may result. number of people in the labour force then multiplied by 100. n Wages are sticky because of number unemployed unemployment rate= ´100 q Implicit contracts labour force q Efficiency wages. 27 28 Unemployment Rate Since 1900 Calculating the Unemployment Rate n The labour force – those people in an economy who are willing and able to work. 30 20 n The labour force excludes those incapable of Target rate working and those not looking for work. 10 0 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 McGraw -Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved. 30 How Accurate Is the Official How Accurate Is the Official Unemployment Rate? Unemployment Rate? n The unemployment rate includes as unemployed, people who say they are n The unemployment rate does not include discouraged workers – people who do not looking for a job who are really not. look for a job because they feel they do not have a chance of getting one. n Others may be working “off the books.” n Statistics Canada uses the labour force n The unemployment rate counts as employed participation rate and the employment rate to those who are underemployed – part-time gauge the state of the labour market. workers who would prefer full-time work. 31 32 How Accurate Is the Official Unemployment/Employment Figures Unemployment Rate? (in millions) n The labour force participation rate measures the labor force as a percentage of the total population at least 15 years old. n The employment rate measures the number of people who are working as a percentage of the population at least 15 years old. 33 34 Unemployment and Potential Output Unemployment and Potential Output n The capacity utilization rate indicates how much capital is available for economic n Potential output – output that would be growth. achieved at the target rates of unemployment and of capacity utilization. q It is the rate at which factories and machines are operating compared to the maximum sustainable n There is debate about its actual level.