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LGS 200 Midterm: Macroeconomics Test 2 Notes

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Legal Studies
LGS 200

Macroeconomics Chapter 10 Notes Real versus Nominal GDP • Inflation can distort economic variables like GDP, so we have two versions of GDP: one is corrected for inflation and the other is not. • Nominal GDP values output using current prices. It is not corrected for inflation • Real GDP values output using the prices of a base year. Real GDP is corrected for inflation. • In each yea, ➢ Nominal GDP is measured using the (then) current prices ➢ Real GDP is measured using constant prices • The change in nominal GDP reflects both prices and quantities • The change in real GDP is the amount that GDP would change if prices were constant (zero inflation) • Real GDP is corrected for inflation The GDP Deflator • The GDP deflator is a measure of the overall level of prices • Definition: 100 x nominal GDP Real GDP • One way to measure the economy’s inflation rate is to compute the percentage increase in the GDP deflator from one year to the next. GDP and Economic Well-Being • Real GDP per capita is the main indicator of the average person’s standard of living • But GDP is not a perfect measure of well-being GDP Does Not Value • The quality of the environment • Leisure time • Non-market activity, such as the child care a parent provides to his or her child at home • An equitable distribution of income Then Why Do We Care About GDP? • Having a large GDP enables a country to afford better schools, a cleaner environment, health care, etc. • Many indicators of the quality of life are positively correlated with GDP. For example… ➢ Life Expectancy ➢ Literacy ➢ Internet Usage and Technology Chapter Summary • GDP measures a country’s total income and expenditure • The four spending components of GDP include: consumption, government purchases, investment, and net exports • Nominal GDP is measured using current prices. Real GDP is measured using the prices of a constant base year and is corrected for inflation. Macroeconomics Chapter 13 Notes Policy 1: Saving Incentives • Tax incentives for saving increase the supply of Loanable Funds • This reduces the equilibrium interest rate and increases the equilibrium quantity of Loanable Funds. Policy 2: Investment Incentive • An investment tax credit increases the demand for Loanable Funds • This raises the equilibrium interest rate and increases the equilibrium quantity of Loanable Funds Other Factors That Will Shift Savings or Investment • Savings ➢ Changes in income ➢ Expectations • Investment ➢ Technological Progress ➢ Expectations • A budget deficit reduces national saving and he supply of loanable funds • This increases the equilibrium interest rate and decreases the equilibrium quantity of Loanable Funds Budget Deficits, Crowding Out, and Long-Run Growth • Our analysis: increase in budget deficit causes a fall in investment. • The government borrows to finance its deficit, leaving less funds available for investment • This is called crowding out • Recall from the preceding chapter: investment is important for long-run economic growth. Hence, budget deficits reduce the economy’s growth rate and future standard of living Macroeconomics Chapter 15 Notes Labor Force Statistics • Produced by Bureau of Labor Statistics (BLS) in the U.S Department of Labor • Based on regular survey of 60,000 households • Based on “adult population” (16 years or older) • BLS divides population into 3 groups: ➢ Employed: paid employees, self-employed, and unpaid workers in a family business, full time and part time workers, and those not working because of a temporary absence from a job (vacation, health, seasonal, maternity leave) ➢ Unemployed: people not working who have looked for work during previous 4 weeks, also includes temporary lay off who are waiting to be recalled to a job. You must be actively looking for a job and apply for a certain amount of jobs per week. ➢ Not in the labor force: everyone else (minors, retirees, inmates, full time students, disabled, discouraged workers, illegal immigrants) • The labor force is the total number of workers, including the employed and unemployed. • Unemployment Rate (“u-rate”): % of the labor force that is unemployed 100 x # of unemployed labor force • Labor force participation rate: % of the adult population that is in the labor force 100 x labor force adult population What Does the U-Rate Really Measure? • The u-rate is not a perfect indicator of joblessness or the health of the labor market: ➢ It excludes discouraged workers ➢ It does not distinguish between full-time and part-time work, or people working part-time because full-time jobs not available ➢ Some people misreport their work status in the BLS survey (phantom worker) ➢ It does not include workers being paid “under the table” • Despite these issues, the u-rate is still a very useful barometer of the labor market and economy. The Duration of Unemployment • Most spells of unemployment are short: ➢ Typically 1/3 of the unemployed have been unemployed under 5 weeks, 2/3 have been unemployed under 14 weeks. ➢ Only 20% have been unemployed over 6 months. • Yet, most observed unemployment is long term. ➢ The small group of long-term unemployed persons has a fairly little turnover, so it accounts for most of the unemployment observed over time. • Knowing these facts helps policymakers design better policies to help the unemployed. Cyclical Unemployment vs. The Natural Rate • There’s always some unemployment, though the u-rate fluctuates from year to year. • Natural rate of unemployment: ➢ The normal rate of unemployment around which the actual unemployment rate fluctuates • Cyclical unemployment: ➢ The deviation of unemployment from its natural rate. ➢ Associated with business cycles, which we’ll study in later chapters Explaining the Natural Rate: An Overview • Even when the economy is doing well, there is always some unemployment, including: • Frictional Unemployment: ➢ Occurs when workers spend time searching for the jobs that best suit their skills and tastes ➢ Short-term for most workers • Structural Unemployment: ➢ Occurs when there are fewer jobs than workers ➢ Usually longer-term Job Search • Workers have different tastes and skills and, jobs have different requirements. • Job search is the process of matching workers with appropriate jobs. • Sectoral shifts are changes in the composition of demand across industries or regions of the country. • Such shifts displace some workers, who must search for new jobs appropriate for their skills & tastes. • The economy is always changing, so some frictional unemployment is inevitable. Public Policy and Job Search • Government employed agencies provide information about job vacancies to speed up the matching of workers with jobs • Public training programs aim to equip workers displaced from declining industries with the skills needed in growing industries. Unemployment Insurance • Unemployment insurance (UI): a government program that partially protects workers’ incomes when they become unemployed. • UI increases frictional unemployment. To see why, recall one of the Ten Principles of Economics: People Respond to Incentives. • UI benefits end when a worker takes a job, so workers have less incentive to search or take jobs while eligible to receive benefits. • Increasing or extending unemployment insurance raises frictional unemployment. • Benefits of UI: ➢ Reduces uncertainty over incomes ➢ Gives the unemployed more time to search, resulting in better job matches and thus higher productivity Explaining Structural Unemployment • Structural unemployment occurs when there are not enough jobs to go around. • Occurs when wage is kept above equilibrium • Graph looks like surplus • Three reasons for this… 1. Minimum-Wage Laws ➢ The minimum wage may exceed the equilibrium wage for the least skilled or experienced workers, causing structural unemployment ➢ But this group is a small part of the labor force, so the minimum wage can’t explain most unemployment ➢ But increasing the minimum wage raises structural unemployment by increasing the QS of labor and decreasing the QD of labor 2. Unions ➢ Union: a worker association that bargains collectively with employers over wages, benefits, and working conditions. ➢ Unions exert their market power to negotiate higher wages for workers. ➢ When unions bargain successfully, wages and unemployment rise in that industry. ➢ The typical union worker earns 20% higher wages and gets more benefits that a nonunion worker for the same type of work. ➢ When unions are successful, wages rise above the market equilibrium. As a result the QS of labor rises and the QD of labor falls and unemployment rises. ➢ “Insiders” – workers who remain unemployed, they are better off ➢ “Outsiders” – workers who lose their jobs, they are worse off ➢ Some outsiders go to non-unionized labor markers, which increases labor supply and reduces wages in those markets. ➢ Are unions good or bad? Economists disagree. ➢ Critics: unions are cartels. They raise wages above equilibrium, which causes unemployment and/or depresses wages in non-union labor markets. ➢ Advocates: Unions counter the market power of large firms, make firms more responsive to workers’ concerns. 3. Efficiency Wages ➢ The theory of efficiency wages: firms voluntarily pay above-equilibrium wages to boost worker productivity. ➢ Different versions of efficiency wage theory suggest different reasons why firms pay high wages. ➢ Four reasons why firms might pay efficiency wages: 1) Worker health ➢ In less developed countries, poor nutrition is a common problem. Paying higher wages allows workers to eat better, makes them healthier, and more productive. 2) Worker turnover ➢ Hiring and training new workers is costly. Paying high wages gives workers more incentive to stay, reduces turnover. 3) Worker quality ➢ Offering higher wages attracts better job applicants, increases quality of the firm’s workforce. 4) Worker effort ➢ Workers can work hard or shirk. Shirkers are fired if caught. Is being fired a good deterrent? ➢ Depends on how hard it is to find another job. If market wage is above equilibrium wage, there aren’t enough jobs to go around, so workers have more incentive to work not shirk. Explaining the Natural Rate of Unemployment: A Summary • The natural rate of unemployment consists of: • Frictional Unemployment ➢ It takes time to search for the right jobs
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