Inflation and Unemployment
Professor Abdul Bayes
(abdulbayes@yahoo.com)
01711564547
Inflation
Inflation- The rise in the general level of prices
In the long term, inflation erodes consumer purchasing power.
That means that accumulated wealth buys less and less, with the passage of time.
Where there is high inflation it is difficult for businesses to plan for the future as there is uncertainty regarding the cost of raw materials
The causes of inflation
inflation results when the macro economy has too much demand for available production. These alternatives fall under two general categories:
Demand-Pull Inflation: In effect, the demand side of the aggregate market is "pulling" the price level higher.
Cost-Push Inflation: Cost-push inflation is inflation attributable to decreases in supply, primarily due to increases in production cost.
Money supply increase
Cost Push Inflation
As costs rise it causes the aggregate supply curve to shift onwards so less is supplied at each price level
Each time the aggregate supply curve shifts inwards the price rises causing inflation
Demand pull inflation
As aggregate demand increases then the general price level rises
When total demand exceeds total supply demand pull inflation occurs
If the economy is close to full capacity the effects of demand pull inflation will be greater
COSTS OF INFLATION
Redistributes income
Lenders loose, borrowers gain
Distorts resource allocation – as inflation affects relative prices
INFALTION AFFECTS GDP
MEASURING INFLATION
MESURING INFLATION (Contd..)
MEASURING INFLATION (Contd..)
Calculation of weights for Price Index
Calculation of Price Index -2
Calculation of Price Index -3
Unemployment
There are a number of types of unemployment:
Structural unemployment
Cyclical unemployment
Frictional unemployment
Structural unemployment occurs when the economy changes and industries die out
Training is needed to give the unemployed workers new skills
Unemployment
Cyclical unemployment is caused by the business cycle
Frictional unemployment is caused when people are temporarily out of work as they are moving jobs
Unemployment and PPF
Unemployment means that scarce economic resources are being wasted reducing the long run potential of the economy
Where there are high levels of unemployment an economy will be operating inside the perimeters of its PPF
HOW UNEMPLOYMENT IS MEASURED?
Labor force = Number of employed + number of unemployed
Unemployment rate = Number of unemployed/Labor forceX100
Labor force participation rate= Labor force/Adult populationX100
Unemployment and AD / AS
As Aggregate demand increases unemployment will decrease
Supply side policies can be used to increase aggregate supply in the economy and thereby reduce the level of unemployment
However if the growth in the level of aggregate demand is less than the underlying trend growth in output unemployment is likely to occur
Causes and Consequences of Unemployment
Unemployment is caused by demand and supply side factors
On the demand side if the demand curve shifts inwards unemployment will rise
Supply side factors such as an excess of supply of workers also means unemployment will increase
Policies that increase labour market flexibility
A number of policies can be implemented to increase market flexibility and reduce unemployment
Policies can be implemented on the supply side and the demand side by the government
Supply side policies
Supply side policies include:
Reducing the occupational mobility of labour – this can be through providing training for the unemployed, increasing the availability and quality of education and providing incentives for people to work
Demand side policies
Employment subsidies can be used by the government to encourage businesses to give jobs to the long term unemployed
Effects of Unemployment
On an individual level unemployment reduces the level of income that an individual earns
As their income has been reduced consumption also reduces as they pay for necessities rather than luxuries
Goods that are income elastic will be consumed less
Quality of life will be reduced for the unemployed worker
Workers may become discouraged and give up searching for jobs becoming part of the long term structural unemployment in the UK
Effects of Unemployment
Unemployment can have significance effects on the performance of the economy as a whole
The effects are most marked due to long terms unemployment
If there is unemployment in the economy resources are not being used effectively and the economy will be operating below any points on the PPF curve
Economic effects of unemployment
If unemployment rates are rising their will be a negative impact on economic growth potential
Consumption is likely to fall as consumers will have had a decrease in income levels
Government spending will increase as the government will be responsible for benefit payments
Taxation levels will decrease as less people are in work and therefore paying taxes
Natural Rate of Unemployment Hypothesis
The natural rate of unemployment recognizes that there will always be some level of unemployment in an economy
At the natural rate all unemployment will be voluntary
This is the employment rate when the economy is operating at full employment
Determinants of the natural rate
The natural rate is determined by the interaction of the demand for labour and the supply of labour
At the equilibrium wage rate all people who want a job can get a job
However at this wage rate their will be some people who choose not to work
Determinants of the natural rate
The natural rate of unemployment is determined by:
Value of welfare benefits
Trade union power
Taxation system
Migration of labour
Social factors
Natural rate of unemployment and policy
If governments want to reduce the natural rate of unemployment they need to concentrate on supply side policies
If the benefits system is relatively high in a country it will cause less people to want to work
The Phillips Curve
Short run phillips curve is curve shaped
The long run phillips curve the curve is vertical
At this rate the where unemployment is at its natural rate inflation is stable
In the UK since 1997 there has been low inflation and low unemployment
Phillips Curve
Professor Abdul Bayes
(abdulbayes@yahoo.com)
01711564547
Inflation
Inflation- The rise in the general level of prices
In the long term, inflation erodes consumer purchasing power.
That means that accumulated wealth buys less and less, with the passage of time.
Where there is high inflation it is difficult for businesses to plan for the future as there is uncertainty regarding the cost of raw materials
The causes of inflation
inflation results when the macro economy has too much demand for available production. These alternatives fall under two general categories:
Demand-Pull Inflation: In effect, the demand side of the aggregate market is "pulling" the price level higher.
Cost-Push Inflation: Cost-push inflation is inflation attributable to decreases in supply, primarily due to increases in production cost.
Money supply increase
Cost Push Inflation
As costs rise it causes the aggregate supply curve to shift onwards so less is supplied at each price level
Each time the aggregate supply curve shifts inwards the price rises causing inflation
Demand pull inflation
As aggregate demand increases then the general price level rises
When total demand exceeds total supply demand pull inflation occurs
If the economy is close to full capacity the effects of demand pull inflation will be greater
COSTS OF INFLATION
Redistributes income
Lenders loose, borrowers gain
Distorts resource allocation – as inflation affects relative prices
INFALTION AFFECTS GDP
MEASURING INFLATION
MESURING INFLATION (Contd..)
MEASURING INFLATION (Contd..)
Calculation of weights for Price Index
Calculation of Price Index -2
Calculation of Price Index -3
Unemployment
There are a number of types of unemployment:
Structural unemployment
Cyclical unemployment
Frictional unemployment
Structural unemployment occurs when the economy changes and industries die out
Training is needed to give the unemployed workers new skills
Unemployment
Cyclical unemployment is caused by the business cycle
Frictional unemployment is caused when people are temporarily out of work as they are moving jobs
Unemployment and PPF
Unemployment means that scarce economic resources are being wasted reducing the long run potential of the economy
Where there are high levels of unemployment an economy will be operating inside the perimeters of its PPF
HOW UNEMPLOYMENT IS MEASURED?
Labor force = Number of employed + number of unemployed
Unemployment rate = Number of unemployed/Labor forceX100
Labor force participation rate= Labor force/Adult populationX100
Unemployment and AD / AS
As Aggregate demand increases unemployment will decrease
Supply side policies can be used to increase aggregate supply in the economy and thereby reduce the level of unemployment
However if the growth in the level of aggregate demand is less than the underlying trend growth in output unemployment is likely to occur
Causes and Consequences of Unemployment
Unemployment is caused by demand and supply side factors
On the demand side if the demand curve shifts inwards unemployment will rise
Supply side factors such as an excess of supply of workers also means unemployment will increase
Policies that increase labour market flexibility
A number of policies can be implemented to increase market flexibility and reduce unemployment
Policies can be implemented on the supply side and the demand side by the government
Supply side policies
Supply side policies include:
Reducing the occupational mobility of labour – this can be through providing training for the unemployed, increasing the availability and quality of education and providing incentives for people to work
Demand side policies
Employment subsidies can be used by the government to encourage businesses to give jobs to the long term unemployed
Effects of Unemployment
On an individual level unemployment reduces the level of income that an individual earns
As their income has been reduced consumption also reduces as they pay for necessities rather than luxuries
Goods that are income elastic will be consumed less
Quality of life will be reduced for the unemployed worker
Workers may become discouraged and give up searching for jobs becoming part of the long term structural unemployment in the UK
Effects of Unemployment
Unemployment can have significance effects on the performance of the economy as a whole
The effects are most marked due to long terms unemployment
If there is unemployment in the economy resources are not being used effectively and the economy will be operating below any points on the PPF curve
Economic effects of unemployment
If unemployment rates are rising their will be a negative impact on economic growth potential
Consumption is likely to fall as consumers will have had a decrease in income levels
Government spending will increase as the government will be responsible for benefit payments
Taxation levels will decrease as less people are in work and therefore paying taxes
Natural Rate of Unemployment Hypothesis
The natural rate of unemployment recognizes that there will always be some level of unemployment in an economy
At the natural rate all unemployment will be voluntary
This is the employment rate when the economy is operating at full employment
Determinants of the natural rate
The natural rate is determined by the interaction of the demand for labour and the supply of labour
At the equilibrium wage rate all people who want a job can get a job
However at this wage rate their will be some people who choose not to work
Determinants of the natural rate
The natural rate of unemployment is determined by:
Value of welfare benefits
Trade union power
Taxation system
Migration of labour
Social factors
Natural rate of unemployment and policy
If governments want to reduce the natural rate of unemployment they need to concentrate on supply side policies
If the benefits system is relatively high in a country it will cause less people to want to work
The Phillips Curve
Short run phillips curve is curve shaped
The long run phillips curve the curve is vertical
At this rate the where unemployment is at its natural rate inflation is stable
In the UK since 1997 there has been low inflation and low unemployment
Phillips Curve
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