1.
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The history of the U.S. economy is
a record of exceptional economic growth.
- But this growth has been accompanied by periods
of inflation
recession
or both.
- The business cycle means alternating periods of
prosperity and recession. These recurrent periods of ups and downs in employment
output
and prices are irregular in their duration and intensity
but the typical pattern is peak
recession
trough
and recovery to another peak.
- Changes in the levels of output and employment
are largely the result of changes in the level of total spending in the economy.
- Not all changes in employment and output which
occur in the economy are cyclical; some are due to seasonal and secular influences.
- The business cycle affects almost the entire
economy
but it does not affect all parts in the same way and to the same degree: The
production of capital and durable consumer goods fluctuates more than the production of
consumer nondurable goods during the cycle because
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- the purchase of capital and durable consumer
goods can be postponed.
- the industries producing these goods are largely
dominated by a few large firms that hold prices constant and let production and employment
decline when demand falls.
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| 2. |
Full employment does not mean that all workers
in the labor force are employed and that there is no unemployment; some unemployment is
normal.
- There are at least three types of unemployment.
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- Frictional unemployment is due to workers
searching for new jobs or waiting to take new jobs; this type of unemployment is generally
desirable.
- Structural unemployment is due to the changes in
technology and in the types of goods and services consumers wish to buy; these changes
affect the total demand for labor in particular industries or regions.
- Cyclical unemployment is due to insufficient
- total spending in the economy; this type of
unemployment arises during the recession phase of the businesss cycle.
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- Because some frictional and structural
unemployment is unavoidable
the full-employment unemployment rate (the natural rate of
unemployment) is the sum of frictional and structural unemployment
is achieved when
cyclical unemployment is zero (the real output of the economy is equal to its potential
output)
and is about 5.5% of the labor force. This natural rate is not automatically
achieved and changes over time.
- Surveying some 60
000 households each month
the
Bureau of Labor Statistics (BLS) finds the unemployment rate by dividing the number of
persons in the labor force who are unemployed by the number of persons in the labor force.
The figures collected in the survey have been criticized for at least two reasons:
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- They include part-time workers.
- They exclude “discouraged” workers who
have left the labor force.
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- Unemployment has an economic cost.
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- The economic cost is the unproduced output (or
the GDP gap). Okun’s law is that for every 1% the actual unemployment rate exceeds
the natural rate of unemployment
there is a GDP gap of about 2%.
- This cost is unequally distributed among
different groups of workers in the labor force.
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- Unemployment also leads to serious social
problems.
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| 3. |
Over its history
the U.S. economy has
experienced not only periods of unemployment but periods of inflation.
- Inflation is an increase in the general level of
prices in the economy; a decline in the level of prices is deflation.
- The rate of inflation in any year is equal to the
percentage change in the price index between that year and the preceding year. The rule of
70 can be used to calculate the number of years it will take for the price level to double
at any given rate of inflation.
- The United States has experienced both inflation
and deflation
but the past half century has been a period of inflation. Inflation is also
experienced by other industrial nations.
- There are at least two causes of inflation
and
these two causes may operate separately or simultaneously to raise the price level.
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- Demand-pull inflation is the result of excess
total spending in the economy. While increases in total spending do not increase the price
level
when the unemployment rate is high (in a depression) they do bring about inflation
as the economy nears and reaches full employment.
- Cost-push or supply-side inflation is the result
of factors that raise per unit production costs. This average cost is found by dividing
the total cost of the resource inputs by the amount produced. Two variants explain this
rise in costs: (a) excessive wage increases that push up unit costs
and (b) supply shock
from an increase in the prices of resource inputs. With cost-push inflation
output and
employment decline as the price level rises.
- It is difficult to distinguish between
demand-pull and cost-push inflation in the real world.
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| 4. |
Even if the total output of the economy did not
change
inflation would arbitrarily redistribute real income and wealth
and it would
benefit some groups and hurt other groups in the economy.
- Whether someone benefits or is hurt by inflation
is measured by what happens to real income. Inflation injures those whose real income
falls and benefits those whose real income rises.
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- Real income is determined by dividing nominal
income by the price level expressed in hundredths.
- The percentage change in real income can be
approximated by subtracting the percentage change in the price level from the percentage
change in nominal income.
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- Inflation injures savers because it decreases the
real value of any savings.
- It benefits debtors and hurts creditors because
it lowers the real value of debts.
- When the inflation is anticipated and people can
adjust their nominal incomes to reflect the expected rise in the price level
the
redistribution of income and wealth is lessened.
- Since World War II inflation in the United States
has redistributed wealth from the household to the public sector of the economy.
- If short in duration
inflation acts to tax some
groups and to subsidize other groups.
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| 5. |
Inflation may also affect the total output of
the economy
but economists disagree over whether it is likely to expand or contract total
output.
- Mild demand-pull inflation seems likely to expand
output and employment in the economy.
- Cost-push inflation is apt to contract output and
employment.
- Hyperinflation may well lead to the breakdown of
the economy.
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