Chapter 18

LONG-RUN & SHORT-RUN CONCERNS:

GROWTH, PRODUCTIVITY,
UNEMPLOYMENT & INFLATION

An Ideal Economy: rapid growth of output per worker;

low unemployment, and low inflation
What determines output, unemployment & inflation ?
 More time on discription

• LONG-RUN OUTPUT & PRODUCTIVITY

GROWTH
• RECESSIONS, DEPRESSIONS, &
UNEMPLOYMENT
• INFLATION
Educ/Macroecon Ch 18/Nurzama 1
nB
LONG-RUN OUTPUT &
PRODUCTIVITY GROWTH
CAPITAL: an input to produce other goods & services; tangible capital
(buildings, equipment); intangible human capital (knowledge & skills);
Public capital stock: roads, bridges  to simplify: capital = machines
Machines (capital) + workers (Labor)  output
Output can be increased: more workers, more skills (quality), more
machines, faster machines (quality), longer workweek.
Output Growth depends on growth rate of:
(1) Capital stock
K stock = for a single firm, the current market
(2) Output per unit of K stock value of the firm’s plant, equipment, inventories,
(3) Labor and intangible assets.

(4) Output per unit of Labor.

Figure 18.1 : Why growth rate of productivity was much higher in the
1950s ?  quality of L and K; K per worker increased more rapidly
Educ/Macroecon Ch 18/Nurzama 2
nB
RECESSIONS, DEPRESSIONS, &
UNEMPLOYMENT
RECESSION: Real GDP declines for at least 2 consecutive quarters:
falling output (real income declines) & rising unemployment; smaller
percentage of the K stock used: 1980-1982: unemployment rate = (7.1 - 9.7)%
DEPRESSION: A prolonged and deep recession. The definitions of
prolonged and deep are debatable: 1929-1930s (1940)
DEFINING & MEASURING UNEMPLOYMENT
Full-time students, retirees,
1982: US unemployment rate was over 10% staying home to take care
Labor force = employed + unemployed of children
Population = labor force + not in labor force  16 years of age or older
Unemployment rate = unemployed / labor force  US: (2.9 – 5.6)%
Unemployed: a person of 16 years old or older who is not working, is
available for work, and has made specific efforts to find work during the
previous 4 weeks.

Educ/Macroecon Ch 18/Nurzama 3
nB
Employed: any person of 16 years old or older:
(1) who works for pay, either for someone else or in his or her own
business for 1 or more hours per week
(2) who works without pay for 15 or more hours per week in a family
enterprise
(3) who has a job but has been temporarily absent, with or without pay
COMPONENTS OF THE UNEMPLOYMENT RATE
 Unemployment rates across groups of people, regions, and
industries.
Unemployment rate by race, sex, age:
 the rate for whites (9.6%) < African-American (20.2%)
 9.0 % of white men > 8.1% white women
 teenagers: 28.5% for men and 27.2% for women
Unemployment rates vary by geographic location:
• Different combinations of industries in states & regions
• L force is not mobile
• Foreign competition: textiles, furnitures, leather goods
Discouraged worker effects: people stop looking for job  lower
unemployment rate
The Duration of Unemployment: An increase in duration of
unemployment during recessionary period: 10.8 – 20 weeks 4
THE COSTS OF UNEMPLOYMENT
What costs does unemployment impose on society ? Not quantified
Job seekers & jobs must be matched  workers acquaire information
Information: job availability, wage rates, location, work environment
Three Types of Unemployment:
Frictional Unemployment: because of short-run job and skill matching
problems; due to normal working of the L market
Structural Unemployment: because of longer run adjustment
problems and structural changes in the economy: agric → industry;
skills are obsolete
Natural Rate of Unemployment: the sum of frictional and structural
Unemployment.
Cyclical Unemployment and Lost Output:
Cyclical unemployment: the increase in unemployment that occurs
during recession & depression  producing less, growth rate real GDP =
0.1% (1980-1982)  a substantial loss of output.
Social Consequences: unemployed 25%, living in poverty 11.7% -
15.3% in US; social & personal ills, anxiety, depression, deterioration of
physical & psychological health, drug abuse, and suicide.
Educ/Macroecon Ch 18/Nurzama 5
nB
 INFLATION
DEFINING INFLATION
Incomes and prices do not increase at the same rate during inflations.
Inflation is measured by looking at a number of goods & services and
calculating the average increase during the same period of time.
Inflation: an increase in the overall price level ↔ Deflation (a decrease)
Sustained inflation: an increase in the overall price level that continues
over a significant period.
PRICES INDEXES: measuremant of averall price levels = GDP price index
in the economy = are constructed using fixed weights.
Consumer Price Index (CPI): a price index computed each month using a
bundel of goods that is meant to represent the “market basket” purchased
monthly by the typical urban consumer = fixed-weight price index.
Changes in the CPI somewhat overstae changes in the cost of living.
Producer Price Index (PPI): wholesale price indexes; measures of prices
that producers receive for product at all stages in the production process 
leading indicators for future consumer prices.
Educ/Macroecon Ch 18/Nurzama 6
nB
THE COSTS OF INFLATION
Inflation lowers the overall standard of living by making goods &
services more expensive; cuts into people’s purchasing power.
Inflation Changes the Distribution of Income
Gain and lose ↔ income rises faster or slower than the prices of the
things we buy  the ability to purchase goods & services.
Many pension plans pay benefits that are indexed to inflation  no
effect on purchasing power.
Social welfare system  the average benefits of the poor fell by more
than 50% in real terms.
Effect on Debtors and Creditors
Debtors benefit at the expense of creditors during an inflation.
Real Interest Rate: the difference between the interest rate on a loan
and the inflation rate.
An unanticipated inflation (inflation is higher than expected) can hurt
creditor.
Inflation that is lower than expected benefits creditors.
Educ/Macroecon Ch 18/Nurzama 7
nB
Administrative Costs and Inefficiency
Costs associated with anticipated inflation. Interest rates tend to rise
with anticipated inflation  hold less cash and deposit at bank:
allocation of resources; the opportunity costs of holding cash outside of
bank is high.
Price index (telephone, a certain good & service) can lead to efficiency.
Increased Risk and Slower Economic Growth
Increases in uncertainty  investors reluctant to invest in capital and
make long-term commitments  economic growth slow down.
INFLATION: PUBLIC ENEMY NUMBER ONE ?
The costs of inflation ? The political importance of inflation out of all
proportion to its economic importance (1987). The effects of inflation
have been extremely unsettling for financial institutions & markets
(1978). Our inflation, our public enemy number one (President Ford,
1974).  stopping inflation is costly.

Educ/Macroecon Ch 18/Nurzama 8
nB