The GDP Deflator The GDP deflator measures price changes for all goods and services produced in the economy and weights them in terms of the economy ’ s total output (GDP). –includes quantities that change each year –compares prices in the current year with those in a base year
The values for the GDP deflator are not as quickly available as values for CPI. Therefore it receives less publicity than then CPI. The results of the two indicators (GDP deflator and CPI) give similar but not identical estimates of inflation.
Nominal Versus Real GDP Nominal GDP –is expressed in current dollars Real GDP –is expressed in base-year dollars –Gives an indication of the purchasing power of an entire economy
Real GDP (real output in terms of dollars from some reference year) = Nominal GDP Current value of the GDP Deflator (expressed in hundredths)
Inflation’s Effects (a) If household ↑ but Inflation ↑ at a higher rate, then household’s purchasing power ↓. If household ↑ and inflation rate ↑ proportionally, then household maintains purchasing power. Cost – of – living adjustment clauses (COLA) Provisions for income adjustment to accommodate changes in price level, which are included in wage contracts.
Inflation redistributes purchasing power in arbitrary ways because of various types of indexation –full indexation (nominal income rises at the inflation rate) –partial indexation (nominal income rises at less than the inflation rate) –fixed incomes (nominal income stays constant)
Inflation’s Effects (b) Nominal Interest rate: The interest rate expressed in money terms. - in 2010, A borrows $2000 at 7% per annum, 7% is the nominal interest rate, he has to pay $140 ($2000 * 7%) interest to the bank. Real interest rate: The nominal interest rate minus the rate of inflation. - in 2010, if the inflation rate is 3%, then the real interest rate is: 7% - 3% = 4%, so the bank only receives $80 ($2000 * 4%) in real interest.
Inflation premium: a percentage built into a nominal interest rate to anticipate the rate of inflation for the loan period. Lenders, therefore, determine what real interest rate they desire and add an inflation premium to determine the nominal interest rate. Nominal interest rate = desired real interest rate + inflation premium.
Nominal interest rate = desired real interest rate + inflation premium 7% 5%2% If the inflation rate turns out to be higher, suppose, the inflation rate is actually 4%, then the real interest rate is 3% (7% - 4%), which is lower than the desired real interest rate, which is 5%. Therefore, the lenders are worse off, while borrowers are better off.
Inflation can also redistribute purchasing power between borrowers and lenders –borrowers win if actual inflation > anticipated inflation –lenders win if actual inflation < anticipated inflation –borrowers and lenders are unaffected if actual inflation = anticipated inflation
Practice Questions (1) The GDP deflator is the following ratio multiplied by 100: a. reference-year quantities valued at reference-year prices, divided by reference-year quantities valued at current-year prices. b. reference-year quantities valued at current-year prices, divided by reference-year quantities valued at base- year prices. c. current-year quantities valued at reference-year prices, divided by current-year quantities valued at current- year prices. d. current-year quantities valued at current-year prices, divided by current-year quantities valued at reference-year prices.
Practice Questions (2) Which of the following groups is most hurt by unexpected inflation? a. those with fixed incomes b. those with partially indexed incomes c. those with fully indexed incomes d. Borrowers
The labour force survey, conducted by Statistics tracks a randomly selected sample of 53 000 Canadian households The survey measures labour force populationthe labour force population, which includes Canadians 15 years of age or over, with specific exclusions labour forcethe labour force, which includes all those who either have a job or are actively seeking employment participation ratethe participation rate, which is the percentage of the labour force population that makes up the labour force official unemployment ratethe official unemployment rate, which is the number of unemployed people in the labour force as a percentage of the entire labour force THE LABOUR FORCE SURVEY
NOTE: participation rate for women has increase steadily until early 1990s and has remained stable since Decline in participation rate of men (due to early retirement) increase in participation of young people since 1975 (students work part time) PARTICIPATION RATES
Participation rate Participation rate = Labour force X 100 = 16 689 400 X 100 = 66.9% Labour force population 24 945 100 Labour force population 24 945 100 Official Unemployment Rate Unemployment rate = Unemployment in labour force X 100 Labour force Labour force = 1 277 600 x 100 = 1 277 600 x 100 16 689 400 16 689 400 = 7.7% = 7.7% CALCULATIONS
The unemployment rate may overstate or understate the true level of unemployment because of the way its calculated This is caused by three factors Underemployment it does not include underemployed workers who are underutilized either as part-time workers or by working at jobs not appropriate to their skills or education The official rate sometimes understates un employment by ignoring underemployed workers DRAWBACKS OF THE OFFICIAL UNEMPLOYMENT RATE (A)
Discouraged workers It excludes discouraged workers who are unemployed and have given up looking for work Since they are not actively seeking employment they should not be included in the labor force This sometimes caused the official rate to understate unemployment DRAWBACKS OF THE OFFICIAL UNEMPLOYMENT RATE (B)
Dishonesty People may give dishonest responses during the labour market survey (may say they are actively looking for work when they are not) This makes it possible for the official rate to overstate unemployment DRAWBACKS OF THE OFFICIAL UNEMPLOYMENT RATE (C)
There are four types of unemployment 1. Frictional unemployment = unemployment due to being temporarily between jobs or looking for a first job Ex. Recent collage graduate looking for job, and a person who has voluntarily left one job to look for another TYPES OF UNEMPLOYMENT (A)
2. Structural unemployment= unemployment due to a mismatch between people and jobs. It is caused by gradual changes in the economy such as adjustments in what items are produced, how they are produced, and where they are produced Workers gaining new skills, moving to obtain work elsewhere and the development of new industries in a region can all take time, thus structural unemployment can persist for long periods Ex. Worker loses job in manufacturing because of automation TYPES OF UNEMPLOYMENT (B)
3. Cyclical unemployment= unemployment due to fluctuations in output and spending Ex. Auto worker may work overtime in periods of strong consumer demand for cars and be laid off in leaner times 4. Seasonal unemployment= unemployment due to the seasonal nature of some occupations and industries Seasonal unemployment is significant in Canada because of its climate and the importance of its primary resource industries Ex. Agriculture, construction and tourism industries TYPES OF UNEMPLOYMENT (C)
Practice Questions (3&4) What are the drawbacks of the official unemployment rate? How do they affect the official rate? List and define the 4 types of unemployment
Full Employment Full employment is the highest reasonable expectation of employment for the economy as a whole is defined in terms of the natural unemployment rate, which includes frictional and at least some structural unemployment in Canada is presently associated with an unemployment rate between 6% and 7%
The Rise in the Natural Unemployment Rate In recent decades Canada’s estimated natural unemployment rate rose because of several main trends structural change, with shrinking manufacturing and expanding services past reforms to unemployment insurance (some of which have been reversed) higher minimum wages in many provinces
structural adjustments in an economy occur when there are changes regarding what products are produced and how they are produced. The change in Canadian economy and the removal of international trade barriers can displace workers and increase long term structural unemployment STRUCTURAL CHANGE
UNEMPLOYMENT INSURANCE Unemployment insurance can be a factor in increasing the unemployment rate. This can be a factor that increases the unemployment rate between 0.5 to 2 percent The government has change this to employee insurance and have made it more difficult to claim benefits
MINIMUM WAGES Wage increases and employment have an inverse relationship because if a 10 percent increase in minimum wage it reduces employment by 1 percent in males and 2.7 percent in females
High unemployment hurts individuals and the Canadian economy as a whole To measure the cost of unemployment for the entire economy is to calculating the potential output. Potential output is the real output or gross domestic product associated with full employment. To measure the real output follows Okun’s law-----for every percentage point the unemployment rate exceeds the natural unemployment rate, the gap between the potential output and the actual output is 2.5 percent 。 The Costs of Unemployment
Practice Questions (5&6) True or False –Full employment is the same as zero unemployment –Unemployment insurance can be a factor in increasing the unemployment rate –Full employment is defined in terms of the natural unemployment rate, which includes frictional unemployment. What are the factors that effect natural and actual unemployment trends?
Boom Bust & Echo (a) David Foot suggests that our ages can give us insights into our economic futures –the baby boom generation (born between 1947 and 1966) which includes Generation X (born between 1960 and 1966) –the baby bust generation (born between 1967 and 1979) –the baby boom echo (born between 1980 and 1995) which includes Generation X-II (born between 1990 and 1995)
Boom Bust & Echo (b) According to Foot –economic conditions are easiest for the baby bust generation and the first parts of the baby boom generation and baby boom echo –economic conditions are hardest for Generation X and Generation X-II
Canada’s Population Pyramids P244 Population in thousands 300250200150100500 100150200250 300 0 10 20 30 40 50 60 70 80 90 Age Male Female