Business Cycle & Unemployment The economy in flux.

Examining the Economy Need to address two Time Horizons Long-Run Over the Course of Several Years, what is GDP’s Trend? Short-Run What are GDP’s month-to-month or quarter-to-quarter fluctuations?

A Closer Look at Real GDP

Real GDP: 1990 to Today

Terminology Business Cycle Alternating periods of economic growth and contraction, measured by %  GDP. Avg. Cycle last about years. Trend Line Shows Long-run GDP trend. Economic Growth Increase in national output measured by a positive %  GDP.

Phases of the Business Cycle Time GDP Real GDP Trend 4 Phases 1.Peak Point where Real GDP reaches a local Max. 2.Recession Period during which real GDP declines (2 consecutive Quarters) 3.Trough Point where real GDP reaches a local min. 4.Recovery/Boom Period during which real GDP increases Peak Recession Recovery Business Cycle Trough

Easier to look at Growth Rates Growth rates can tell us the same info about the business cycle 1. Recovery/Boom Growth Rate > 0 2. Recession Growth Rate < 0 3. Peak Growth Rate = 0 & moving from + to - 4. Trough Growth Rate = 0 & moving from - to + Time Growth Rate %  GDP Peak Trough Recession Recovery

Growth Rate of Real GDP

Growth Rate: 1990 to today

Forecasting the Business Cycle Takes time to collect data on GDP. 1 month lag for initial quarterly report 6 month or longer for revised estimates We need to know faster: Use Indicators Leading Indicators: Inventories, Avg. Work Week… Coincidental Indicators: Industrial Production, Non-Ag. Payroll Lagging Indicators: Unemployment, Duration of UE, Prime Rate

Economic Goals Maintain Growth Trend Minimize Size of Economic Fluctuations Try to keep Business Cycle as close to Trend line as Possible Why? Economy potentially experiences problems when away from trend: Below Trend: Unemployment Concerns Above Trend: Inflation Concerns

Unemployment Unemployment Rate: The % of people in the labor force who are without jobs and are actively looking

Population Break Down Working Age Population Anyone over 16 years old Discouraged Worker: a person who wants work, would take a job if found, but has given up looking. Not in Labor Force Armed forces, household workers, volunteers, students, retirees, disabled, Institutionalized workers, Discouraged Workers Civilian Labor Force Member of working age population not listed to left Unemployed No job, but looking within last 2 weeks: New entrants, re-entrants, lost or quit last job & laid-off Employed Paying job or self-employed

Employment Statistics Unemployment Rate UE% = # of Unemployed/(# in Labor Force) =UE / (LF) =UE / (UE + E) Ex: Unemployed = 100; Employed = 900; UE%= 100/( ) = 100/1000=.1=10% Labor Force Participation Rate (LFPR) LFPR = LF / Working Age Pop Employment Ratio ER = Employed / Working Age Pop

Unemployment History Avg. UE% = 5.6%

Employment Ratio History

Problems w/ Unemployment Measure UE% Overstated because: No Black Markets People lie to get Unemployment Compensation UE% Understated because: Discouraged Workers Underemployed: Part-time workers who want full time work

To Fix UE need to know the cause Types of Unemployment: 1. Frictional Unemployment People who are in between jobs or just entered the job market: 2. Seasonal Unemployment UE related to changing seasons: ex. Winter UE in agriculture or construction Technically a sub category of frictional

To Fix UE need to know the cause 3. Structural Unemployment No longer have skill demanded by employers Mismatch of skills 4. Cyclical Unemployment Unemployment caused by economic fluctuations. Caused by the cycle.

Unemployment: Natural? Good Sign? Frictional, Seasonal & Structural We expect these 3 types of UE will always exist Maybe even good: Frictional: People leave jobs to find better ones, or graduate from school…Good. Seasonal: Necessary for the type of work, so expected. Structural: Implies new technology, more skills need. Good sign for the economy, not for the individual

Full Employment If we expect these types of UE, then we don’t worry when we have UE. Full Employment Implies UE% = Seasonal% + Structural% +Frictional % NOTE: FULL EMPLOYMENT DOES NOT MEAN UE = 0%

Natural Rate of Unemployment The unemployment rate that exists at Full employment. Estimated to be between 4% & 6%, so… aprox: 5%

Unemployment Goal Keep Economy at Full Employment Maintain the Natural Rate of UE Keep Cyclical Unemployment = 0 Stay near trend line

Cost of Unemployment GDP Gap = Potential real GDP – actual Real GDP Potential Real GDP What GDP would have been if we were at Full Employment Actual Real GDP Real GDP actually produced GDP Gap measures lost production caused by unemployment “How Far Inside the PPC are we?”