Unemployment: Inflation.docx

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University of Toronto St. George
James Pesando

UNEMPLOYMENT Labor force activity Labour force = Number of employed + Number of unemployed Unemployment rate = Number of unemployed/ labor force * 100 Participation rate = Labour Force/ adult population * 100 Suppose if number of jobs = number of workers, would the unemployment rate be zero? NO, Frictional unemployment: mismatch reflects normal labor turnover Structural unemployment: mismatch in skill level, occupation, or region *Cyclical unemployment related to business cycle *Macroeconomic in origin NATURAL RATE OF UNEMPLOYMENT (Lipsey- Ragan: NAIRU) Cyclical unemployment is zero  unemployment is frictional or structural When the economy is t the natural rate of unemployment (NAIRU): Real GDP = Potential GDP Recessionary gap is zero Unemployment Rates February 2010 February 2011 Canada: 8.2% 7.8% U.S.: 9.7% 8.9% Natural Rate of unemployment (estimated by economists) Canada: 6.0% U.S.: 4.5% Monetary Policy Bank of Canada controls money supply/ interest rate to influence aggregate demand Fiscal Policy Government uses expenditures/ taxes to influence aggregate demand March 2009 Deep Recession Centeral bank’s target Interest rate Implication Canada 0.5% (almost) no potential for further stimulus to A.D. from interest rate cuts U.S. 0.5%  Potential to use money policy very limited Result: U.S. and Canada adopt expansionary fiscal policy Government Budget Outlays 1. Government expenditures 2. Transfer payments to households (unemployment insurance, social assistance, public pensions, etc.) 3. Interest on public debt Revenue Taxes Revenues – outlays = 0  Balanced budget Revenues – outlays > 0  Budget surplus Revenues – outlays < 0  Budget deficit Note: Budget deficit => future outlays must be reduced and/or future revenues (taxes) increased Large budget deficits => higher (effective) tax burden on future generations Determinants of Natural Rate Demographics (composition of labor force) %young, unskilled   natural rate  Technological Change rapidity   natural rate  Employment Insurance Generosity   opportunity cost of job search   unemployed workers less willing to accept job offers  natural rate  Minimum Wage Laws Minimum wage   natural rate  Question: Should the government make unemployment benefits more generous (easier to qualify; longer period of benefits) in regions where unemployment is high? Insight: What incentives would this create? Answer: would increase unemployment, by discouraging the unemployed from leaving high unemplyment regions. Ie) Newfoundland Inflation: the rate at which the price level is rising Repeated increases in the money supply produce repeated increases in the price level and thus create inflation. Key Result In the long run, a hcange in money supply - does not affect real GDP - affects only the price level DIAGRAM #1, March 16, 2011 Money Growth-Inflation Link Hyperinflations (greater than 1,000 percent per year) 1) 25 countries have experienced (since 1980) 2) In all cases: inflation rate equals (approx) money growth rate Why do governments increase money supply? Governments print money (rather than raise taxes or borrow) to finance spending. Inflation rates, current Canada 2.2% U.S. 2.1% China 4.9% India 8.1% Euro Area 2.1% Canada, historical inflation rates 2001 to 2010 2.1% 1978 to 1982 10.0% Current inflation rates (temporarily?) high because of high food, comm
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