Chapter 10: Business Cycles, Unemployment, and Inflation

Recession

A significant decline in economic activity spread across the economy lasting more than a few months. In a recession, GDP is running below its potential and the unemployment rate is high during recession. This makes it harder to find a job, profits aren't as high, and malls are empty= Income goes down= spending goes down= businesses close. Tax revenues fall short of predictions.= Government revenues go down. Recession also means that the output gap is negative and the actual real GDP is less than potential GDP.

When the real GDP is greater than potential GDP, the output gap is positive. However if the real GDP is less than potential GDP, the output gap is negative.

Compare and contrast potential GDP and real GDP?

Recession is a significant decline in economic activity spread across an economy, which lasts more than a few months. Recession hurts businesses and workers because as an economy slows, the demand schedule of most businesses shift to the left. For the same price the quantity demanded falls, and therefore the quantity supplied also falls. Example: Figure 10.7 shows the supply and demand schedule for a typical market in an economy for cars. During a recession, consumers have less money to spend on new cars, and that causes the demand schedule to shift to the left. As a result, the production of cars fall from Q to Q1. The auto companies are forced to offer discounts and special deals, so the price falls from P to P1. Figure 10.7: The Effects of Recession on Car Companies: The peak marks the start of the recession, and the trough marks its end. A full business cycle runs from one peak to the next.

Define recession, and discuss the impact of recessions on workers and businesses.

The unemployment rate is the percentage of the labor force that is unemployed. Frictional Unemployment is a periods of temporary unemployment that corresponds to short gaps between jobs. Frictional unemployment rises when there are at least a couple of weeks between the end of one job and the beginning of the next one or between graduating from school and finding your first job. Structural Unemployment occurs when there is a mismatch between the skills of unemployed workers and the needs of employers with unfilled jobs. Example: If a local factory is closing, the laid off workers are probably not immediately qualified to take jobs as nurses even if the local hospital is hiring. The faster the economy changes, the structural unemployment there will be. Cyclical Unemployment is when large jumps in unemployment tied directly to slowdowns in economic growth. Example: The unemployment rate remained above 6% for 6 years, from 2009 to 2014.

Define the unemployment rate, and distinguish between the different types of unemployment.

If the number of unemployed workers is low, it would be harder for employers to find people to fill job openings. As a result all workers feel they have more power to ask for wage increases. Those wage increases drive up costs for companies and force them to raise prices. The higher prices eat away at the value of wages, and workers have to demand even bigger wage increases to keep up with inflation. This leads to a wage-price spiral.

Explain the trade-off between unemployment and inflation.

When we reach the positive output gap the actual real GDP is greater than potential GDP. When the output gap is 0 the actual real GDP is equivalent to potential GDP. When you have a negative output gap then the actual real GDP is less than the potential GDP.

Figure 10.2: The Output Gap?

Table 10.2: Recent Recessions and Their Causes: This table lists some of the causes recent recessions. Recession Start Date: November 1973= Type of Recession= Negative supply shift= Main Cause= Sharp rise in oil prices. Recession Start Date: January 1980= Negative supply shift & inflation fighting= Main Cause= Sharp rise in oil prices combined with interest rate hikes by Federal Reserve. Recession Start Date: July 1981= Type of Recession=Inflation fighting= Main Cause= Interest rate hikes by the Federal Reserve. Recession Start Date: July 1990= Type of Recession= Negative supply shift & inflation= Main Cause= Oil price hike is caused by Iraqi invasion of Kuwait combined with rate hikes by the Federal Reserve. Recession Start Date: March 2001= Type of Recession= Negative demand shift= Main Cause= Decline in tech spending by business. Recession Start Date: December 2007= Type of Recession= Financial crisis= Main Cause= Excess borrowing.

List the possible causes of recession.

Low income= Low demand. Recession has a negative impact on businesses, as the demand for their product declines. This results in a downward(left) shift in the demand curve for their product.= Profit= P x Q= Price goes down= output goes down= low profits.= Some businesses might close. Demand falls because consumers have less income to spend. Businesses also cuts back on expansion plans and investment in new equipment.= This leads to unemployment.

The Impact of Recession on Businesses?

The unemployment rate goes up. Unemployed workers and their families suffer the most from recession. During recession, it is hard to find a job as the economy shrinks and companies stop hiring. The labor market typically doesn't fully recover until well after the recession has ended.

The Impact of Recession on Workers?

The Output Gap

The actual level of real GDP may be higher or lower than potential GDP. It is the difference between actual and potential GDP. Output Gap= Actual real GDP- Potential GDP.

The Business Cycle

The constant cycling of real GDP overtime. When we reach expansion there are lots of production. It peaks when the short run increase in GDP hits the top point for that cycle.=(Peak Expansion). Then we reach recession which means that the production is going down. At the lowest recession we have the trough which occurs when GDP hits its low point for that short-run period. Then you go to a new expansion where the GDP is growing due to the growth of production.= This is the actual real GDP= which fluctuates up and down overtime.

Potential GDP

The output of the economy assuming no strains on production or unused resources. Potential and actual GDP can be different.

Potential Growth Rate

The rate at which potential GDP rises. Potential Growth= Growth: 1. Labor goes up as a result of an increase in the labor force. 2. Skill + Education rises. 3. Investment in Physical Plant + Equipment rises. 4. Raw Materials go up. 5. Increase in Knowledge. This means that Productivity will rise. The potential growth rate in the economy is a combination of the long-term rate of labor force plus the long-term growth rate of productivity.= Potential Growth Rate= Long-term labor force growth rate + long-term productivity growth.

Around 3% per year.

What is the estimated growth rate in potential GDP for the U.S.?