week 5: chapter 9 & 10

average propensity to save (APS)

Fraction (or percentage) of disposable income that households save; saving divided by disposable income.

average propensity to consume (APC)

Fraction (or percentage) of disposable income that households spend on consumer goods; consumption divided by disposable income.

real income

amount of goods and services that can be purchased with nominal income during some period of time; nominal income adjusted for inflation.

multiplier effect

any initial change in a component of total spending can lead to a larger change in GDP

The type of inflation that is more likely to be associated with positive GDP gap is

demand-pull inflation

A difficult aspect of measuring the unemployment rate is

determining who is eligible and available to work

how to calculate rate of inflation

difference between CPI of current year and last/the previous year 100 --> 278.8-260.5/260.5 x100 = 7%

wealth

dollar amount of all assets owned minus amount of liabilities (debt)

If a $50 billion initial increase in spending leads to a $250 billion change in real GDP, how big is the multiplier?

5.0 (multiplier= change in real GDP/initial change in spending)

consumer price index

measures the prices of fixed market basket of some 300 goods and services bought by a "typical" consumer

The nominal interest rate is:

minus the inflation rate is the real interest rate

seasonal variation and long-term trends complicate the measurement of the business cycle because

normal seasonal variations do not signal boom or recession

multiplier

number by which a change in any such component must be multiplied to find the resulting change in equilibrium GDP.

nominal income

number of dollars received by an individual or group for its resources during some period of time.

productivity

output per unit of input

in sequential order, the four phases of the business cycle are

peak, recession, trough, and expansion

nominal interest rate

percent increase in money borrower pays lender including the built in expectation of inflation

unemployment rate

percentage of the labor force unemployed at any time.

recession

period of declining real GDP, accompanied by lower real income and higher unemployment.

how to calculate per unit production cost

total input cost/ units of output

what is the difference between frictional and structural unemployment?

- frictional have the skills and location to find jobs but are still having trouble - structural have a hard time finding new jobs due to a LACK of skills, education, or area in need of employment - frictional is short term and structural is long term

In year 1, Anita earns $1,000 and saves $100. In year 2, Anita gets a $500 raise so that she earns a total of $1,500. Out of that $1,500, she saves $200. What is Anita's MPC out of her $500 raise?

0.80 (mpc= change in consumption or savings/ change in income)

With a marginal propensity to save of 0.4, the marginal propensity to consume will be

1.0 minut 0.4

labor force

16 years of age and older who are not in institutions and who are employed or are unemployed and seeking work.

investment demand curve

A curve that shows the amounts of investment demanded by an economy at a series of real interest rates.

Which of the following illustrates the difficulty of distinguishing among frictional, structural, and cyclical unemployment?

A person quits his job in search of a better one, but the former job is in a declining industry and disappears completely.

GDP gap

Actual gross domestic product minus potential output

discouraged workers

Employees who have left the labor force because they have not been able to find employment.

Explain how an increase in your nominal income and a decrease in your real income might occur simultaneously. Who loses from inflation? Who gains?

Nominal income is calculated through sources like wages, rent, interest, and profit. Whereas, real income is measured through a person's purchasing power and reflects inflation. An increase in nominal income and a decrease in real income could occur at the same time if prices rise faster than nominal income and if real income increases at the same level as the cost of living increases. Typically, those who are hurt by inflation are fixed-income receivers, savers, and creditors. On the other hand, the people who gain from inflation are flexible income receivers like social security recipients and debtors.

Who measures the labor force, and how is it defined?

The U.S. Bureau of Labor Statistics (BLS) measures the labor force as people over 16 years of age who are employed and those who are actively seeking work.

The noneconomic effects of unemployment include:

a sense of failure created in parents and in their children

Unemployment is an economic problem becuase:

a unit of labor resource that could be engaged in production is sitting idle.

The 45-degree line on a graph relating consumption and income shows

all the points at which consumption and income are equal.

cost of living adjustments (COLAs)

automatic increase in the incomes (wages) of workers when inflation occurs; often included in collective bargaining agreements between firms and unions. Cost-of-living adjustments are also guaranteed by law for Social Security benefits and certain other government transfer payments.

peaks

business activity has reached a temporary maximum; the point at which an expansion ends and a recession begins. At the peak, the economy is near or at full employment and the level of real output is at or very close to the economy's capacity.

trough

business activity has reached a temporary minimum; the point at which a recession ends and an expansion (recovery) begins. At the trough, the economy experiences substantial unemployment and real GDP is less than potential output.

cyclical unemployment

caused by insufficient total spending (insufficient aggregate demand) and which typically begins in the recession phase of the business cycle

how to calculate the multiplier?

change in real GDP/initial change in spending

The Consumer Price Index (CPI) is determined each month by:

comparing the value of a "market basket" of goods that consumers typically purchase to the value of the basket in a base year.

The type of inflation that is more likely to be associated with negative GDP gap is

cost-push inflation

If there is an increase in the unemployment rate, the size of the labor force:

could increase or decrease

deflation

decline in the general level of prices in the economy

Which of the following statements is true?

deflation means the the price level is falling, whereas the inflation overall prices are rising

hyperinflation

extremely high rate of inflation, usually defined as an inflation rate in excess of 50 percent per month

If the MPS rises, then the MPC will:

fall (1-MPC = MPS)

expansion

followed by recession where real GDP, income, and employment begin to rise (may lead to inflation)

Okun's Law

for every 1% point by which the actual unemployment rate exceeds the natural rate, a GDP gap of about -2% happens

marginal propensity to consume (MPC)

fraction of any change in disposable income spent for consumer goods; equal to the change in consumption divided by the change in disposable income.

marginal propensity to save (MPS)

fraction of any change in disposable income that households save; equal to the change in saving divided by the change in disposable income.

natural rate of unemployment (NRU)

full-employment rate of unemployment; the unemployment rate occurring when there is no cyclical unemployment and the economy is achieving its potential output; the unemployment rate at which actual inflation equals expected inflation.

anticipated inflation

increase in price level/inflation at the expected rate

expected rate of return

increase in profit a firm anticipates it will obtain by purchasing capital or engaging in research and development (R&D); expressed as a percentage of the total cost of the investment (or R&D) activity.

supply-push inflation

increase of inflation from an increase in resource costs and hence per unit production costs; inflation caused by reduction in total supply

unanticipated inflation

increase of the price level/ inflation at a rate greater than expected

demand-pull inflation

increases in the price level (inflation) resulting from an excess of demand over output at the existing price level, caused by an increase in aggregate demand

offshoring

jobs that occurs when the demand for a particular type of labor shifts from domestic to foreign firms

break-even income

level of disposable income at which households plan to consume (spend) all their income and to save none of it.

paradox of thrift

possibility that households trying to protect themselves against a recession by saving more may inadvertently worsen the recession and hurt themselves by reducing overall consumption and economic activity.

how to calculate CPI

price of the most recent market basket in the particular year/ price estimate of the market basket in 1982-1984 x 100

Demand-pull inflation occurs when:

prices rise because of an increase in aggregate spending not fully matched by an increase in aggregate output.

potential output

real output (GDP) an economy can produce when it fully employs its available resources.

business cycle

recurring increases and decreases in the level of economic activity over periods of years consists of: -peak -recession -trough -expansion

What does inflation do?

reduces the purchasing power of the dollar

45 degree line

reference line in a two-dimensional graph that shows equality between the variable measured on the horizontal axis and the variable measured on the vertical axis - line along the value of output (horizontal) and value of aggregate expenditures (vertical)

inflation

rise of general level of prices -- increase in economy's price level

saving schedule

saving function; table of numbers that shows the amounts households plan to save (plan not to spend for consumer goods), at different levels of disposable income.

The Bureau of Labor Statistics (BLS) calculates the inflation rate from one year to the next by

subtracting the CPI of the previous year from the CPI of the most recent year, and then dividing by the CPI of the previous year.

consumption schedule

table of numbers showing the amounts households plan to spend for consumer goods at different levels of disposable income

wealth effect

tendency for people to increase their consumption spending when the value of their financial and real assets rises and to decrease their consumption spending when the value of those assets falls

This economic concept is a key driving force behind _________

the business cycle

The central economic idea humorously illustrated in the Last Word "Toppling Dominoes" is _________

the multiplier effect

The unemployment rate is defined as:

the number of unemployed persons divided by the labor force.

real interest rate

the percentage increase in purchasing power that the borrower pays the lender

The business cycle affects output and employment in capital goods industries and consumer durable goods industries more severely than in industries producing consumer nondurables because:

these goods last, so that purchases can be postponed

frictional unemployment

type of unemployment caused by workers voluntarily changing jobs and by temporary layoffs; unemployed workers between jobs. - called frictional because the labor market does not operate perfectly - this can be a good thing as people can search for better paying jobs and therefore have better allocation of labor resources and real GDP for the economy

core inflation

underlying increases in the price level after volatile food and energy prices are removed

A positive unemployment rate—more than zero percent—is fully compatible with full employment because at full employment,

unemployment includes frictional unemployment, which is always positive because people are transitioning to new jobs

full-employment rate of unemployment

unemployment rate at which there is no cyclical unemployment of the labor force; equal to around 4 percent (rather than zero percent) in the United States because frictional and structural unemployment are unavoidable.

the length of a complete business cycle

varies greatly in duration and intensity

A consequence of a negative GDP gap is that:

what is not produced is lost forever and future economic growth will be less.

structural unemployment

workers whose skills are not demanded by employers, who lack sufficient skill to obtain employment, or who cannot easily move to locations where jobs are available