T2 monitoring jobs and inflation

Question 1

why is unemployment a problem?

Answer 1

> results in lost incomes and production
results in lost human capital

> EMPLYMENT BENEFITS: create a safety net but do not fully replace lost wages and not everyone receives benefits
PEOLONGED UNEMPLOYMENT: permanently damages a persons job prospects by destroying human capital

Question 2

labour force survey

Answer 2

the office for national statistics (ONS) conducts a monthly population survey to determine the status of the UK workforce

> the population is divided into 2 groups:
1. the working age population- the no. of people aged 16 to 64 years (not in prison, hospital, or some other forms of institutional care)
2. people under 16 or over 64 years, or in institutional care

Question 3

the working age population is divided into 2 groups:

Answer 3

1. people who are economically active- have a job or are willing and able to take a job
2. people who are economically inactive- do not want a job.

Question 4

labour force survey (LFS)

Answer 4

> measures no. of unemployed people in the UK

Question 5

to be counted as unemployed, a person must be in one of the following 3 categories:

Answer 5

1. Without work, but have actively sought work in the last four weeks
2. Without work, but are available to start work in the next two weeks
3. Are out of work, have found a job and are waiting to start it in the next two weeks

Question 6

labour market indicator: the unemployment rate formula

Answer 6

number employed/economically active x100&

example:
In June 2016, the number employed was 31.8 million and the number unemployed was 1.6 million.
Economically active (31.8 + 1.6) million = 33.4 million.
Unemployment rate = (1.6 ÷ 33.4) x 100%, or 4.8%

Question 7

three labour market indicators

Answer 7

1. the unemployment rate
2. the employment rate
3. the economic activity rate

Question 8

the economic activity rate formula

Answer 8

economically active/working-age population x100%

• In June 2016, the economically active was 33.4 million and the working-age population was 52.4 million.
• The economic activity rate was 63.7 per cent.

Question 9

employment rate, unemployment rate, economic activity during recession and expansion

Answer 9

> unemployment rate falls during expansion
unemployment rate rises during recession
employment rate rises during expansion
employment rate falls during recession
but the economic activity rate is mare stable over time.

Question 10

purpose of the unemployment rate

Answer 10

to measure the underutilisation of labour resources.
HOWEVER…
the official measure is an imperfect measure because it excludes:
> DISCOURAGED WORKERS: (available and willing to work but stopped actively looking for a job because they believe that no jobs are available)
> OTHERS WHO WANT A JOB: (economically inactive, willing to work but stopped actively looking for a job because they are not available to start a job in the next 2 weeks)

Question 11

unemployment can be classified into 3 types

Answer 11

1. FRICTIONAL UNEMPLOYMENT
   Arises from normal labour market turnover.
   The creation and destruction of jobs requires that unemployed workers search for new jobs.
   Increases in the number of people entering and re-entering the workforce and increases in unemployment benefits raise frictional unemployment.
2. STRUCTURAL UNEMPLOYMENT
   - Created by changes in technology and competition that change the skills needed to perform jobs or the locations of jobs.
   - Structural unemployment lasts longer than frictional unemployment.
3. CYCLICAL UNEMPLOYMENT
   A worker laid off because the economy is in a recession and is then re-hired when the expansion begins experiences cyclical unemployment.
   Higher than normal unemployment at a business cycle trough and lower than normal unemployment at a business cycle peak

Question 12

natural unemployment

Answer 12

Unemployment that arises from frictions and structural change when there is no cyclical unemployment.

FORMULA: Natural unemployment = frictional unemployment + structural unemployment

Question 13

full employment

Answer 13

occurs when there is no cyclical unemployment or, equivalently, when all unemployment is frictional and structural.

• The unemployment rate when the economy is at full employment is called the natural unemployment rate.

Question 14

the price level

Answer 14

the price level is the average level of prices of all goods and services is an economy

> a persistent RISING price level is called INFLATION
a persistent FALL price level is called DEFLATION

Question 15

why inflation and deflation are problems?

Answer 15

low, steady and anticipated inflation is not a problem.
UNPREDICTABLE INFLATION is a problem because…
> Redistributes income (in arbitrary ways between employers and workers and between borrowers and lenders)
> Redistributes wealth
> Diverts resources from production (eg raw materials)
> Lowers real GDP and employment

Question 16

hyperinflation definition

Answer 16

an extreme form of inflation where the rate exceeds 50% per month, that grinds the economy to a halt and society to a collapse.

Why is hyperinflation a problem?
> What are the effects of hyperinflation on the economy, on individuals and their standards of living?
> What happened in Zimbabwe and/or Venezuela?

Question 17

effects of hyperinflation

Answer 17

> Workers are paid more frequently and spend as soon as money received
Prices are adjusted continuously
Only short run exists: No savings, no lending, no investment
Often the economic system collapses

Question 18

the consumer price index

Answer 18

> Every month the Office for National Statistics calculates the Consumer Prices Index (CPI).
The CPI measures the average of the prices paid by consumers for a ‘fixed’ basket of consumer goods and services.

Question 19

reading the CPI number

Answer 19

CPI= 100 for the reference base period (July 2015)
In July 2016, the CPI was 100.63.
This number tells us that the average level of price paid by consumers for a fixed basket of goods was 0.63 per cent higher in July 2016 than it was in July 2015.

Question 20

Constructing the CPI involves three stages:

Answer 20

> SELECTING THE BASKET
The CPI basket is selected to be representative of the items bought by the average household in the UK.
The idea is to make the relative importance of the items in the CPI basket the same as that in the average household’s budget.

> CONDUCTING A MONTHLY PRICE SURVEY
Every month, ONS employees check 180,000 prices of more than 700 types of goods and services.

> CALCULATING THE PRICE INDEX
1. Find the cost of the basket at base-period prices.
2. Find the cost of the basket at current-period prices.
3. Calculate the price index for the base period and for the current period.

Question 21

CPI formula

Answer 21

(Cost of basket at current-period prices ÷ Cost of basket at base-period prices) x 100

Example:
In the base period: CPI = (£50 ÷ £50) x 100 = 100.
In the current period: CPI = (£70 ÷ £50) x 100 = 140.

Question 22

inflation rate formula

Answer 22

Inflation rate = [(CPI this year – CPI last year) ÷ CPI last year] x 100%.

Question 23

consumer price index (CPI) & retail price index (RPI)

Answer 23

CPI: The basis of the official national measure of inflation
RPI:
> ONS: A non-official national measure of inflation (since 2013)
> Still in use by government (HM Treasury, HMRC etc.)
> Compared to the CPI, it additionally covers items relating to house ownership and maintenance:
- Housing Costs, Council Tax, Mortgage Interest Payments, Building Insurance, Ground rent, Estate agent fees etc.
> Slightly different method of calculation:
- CPI: geometric mean (Jevons)
- RPI: arithmetic mean (Carli)

Question 24

CPI advantages and disadvantages

Answer 24

> By using a fixed basket of goods, CPI (or RPI) allows for year-to-year (month-to-month) direct comparisons of the price level in the economy.

> This “constant basket” approach suffers from numerous biases and flaws as the basis for calculating a cost-of-living index.

Question 25

biases price indices: main sources

Answer 25

NEW GOOD BIAS:
New products are not introduced into the index until they are commonplace items. Substantial price decreases and quality increases that occur during the early years following introduction are not captured by the index.
QUALITY CHANGE BIAS:
Quality improvements occur every year. Part of the rise in the price is payment for improved quality. The price index counts all the price rise as inflation.
SUBSTITUTION BIAS:
The market basket of goods used in calculating the price index is fixed and does not take into account substitutions that consumers make away from goods whose relative prices rise. People switch to buying cheaper goods, but the price index does not take that into account.

Question 26

consequences of the bias in the CPI

Answer 26

> Distorts private contracts
Increases government spending
Might lead to inappropriate monetary policy decisions by the Bank of England

Question 27

a broader price index: the GDP deflator

Answer 27

> The GDP deflator = (Nominal GDP ÷ Real GDP) × 100.
The GDP deflator is an index of the prices of all the items in GDP - a broader price index, appropriate for macroeconomics because it is a comprehensive measure of the cost of the real GDP basket of goods and services.