EC 132 Discussion Note PS1
CHIU
P.1
Disclaimer:
All questions are adapted directly from the textbook and problem sets.
Suggestions from Professor Tresch are used in preparation of this note.
All solutions are just suggestive and tentative comments, not marking criteria actually adopted,
subject to further changes and interpretations.
Question 1
The rates of growth in real GDP (GDP net of price increases), the most common measure
of national product, were as follows in the United States from 2000-2009:
2000 4.1%
2001 1.1
2002 1.8
2003 2.5
2004 3.6
2005 3.1
2006 2.7
2007 2.1
2008 0.4
2009 -2.4
Can we conclude from these data that the rate of long-run economic growth from 2000 to
2009 was highly uneven and rather poor overall? Why or why not?
No. Long-run economic growth measure the potential while here is actual GDP.
However, no one knows. If judged from actual GDP, it is really quite bad.
Per capita mean is around 2% in the history. Subtract 1% from the data (labor force grows at
1% per annum). It is clearly below average.
Note 1: labor productivity be a measure of potential production capacity
Note 2: real GDP versus nominal GDP
Question 2 (Q2 in Chapter 6 p.148)
What is long-run economic growth?
Long-run economic growth is persistent increase in the potential of the economy to produce
goods and services. (P.43)
Would you expect the following to promote long-run economic growth?
a) Firms invest heavily in research and development.
Yes.
b) Firms spend heavily one advertising to increase sales.
No.
c) The government establishes five new public universities.
Yes.
Question 3 (Q5 in Chapter 6, p.148)
a) What are three categories of unemployment that economists have defined to help
them analyze and understand the problem of unemployment?
1) Cyclical unemployment
2) Frictional and Search Unemployment
3) Structural Unemployment
EC 132 Discussion Note PS1
CHIU
P.2
Total unemployment rate = 1 + 2 + 3
Natural rate of Unemployment = 2 + 3
Uses: identify the source is crucial to cure, no?
Definition: (Cyclical unemployment) Unemployment that fluctuates with the state of the economy
because wages are sticky. (P.135)
Definition: (Frictional unemployment) Unemployment caused by the continuously shifting
employment opportunities from sector to sector that go on beneath the surface of the economy:
gathering information about job opportunity and relocating take time and act as frictions in the
economy that generate unemployment. (P.139)
Definition: (Search unemployment) Unemployment caused by employees who leave their jobs
voluntarily and are looking for other jobs, or by re-entrants or new entrants to the labor force
who are looking for a job. (P.139)
Definition: (Structural unemployment) Unemployment caused by severe and lasting mismatches
between people who are looking for work and the jobs that are available to them; the
mismatches are typically geographic or skills-related. (P.141)
Definition: (Natural rate of unemployment) The sum of frictional and search unemployment: the
rate of unemployment that corresponds to production on the production possibilities frontier and
that cannot be reduced very much by fiscal and monetary policies. Also called the nonaccelerating inflationary rate of unemployment.
b) What government policies are needed to reduce each category of unemployment?
Cyclical: unemployment benefit
Frictional: provide more labor market info.
Search: better info again?
Structural: better training
c) Which of the categories of unemployment does each of the following headlines
describe?
(i) College graduates are having difficulty finding their first job.
frictional and search (can be cyclical if it is due to macroeconomic factors)
(ii) Auto sales depressed, 2000 autoworkers laid off.
cyclical (can be structural if the depression is long enough)
(iii) High school drop-outs seen as unfit for today's computerized workplace.
structural
(iv) The Home Shopping Network may replace the sales clerk by the year 2020.
structural
Question 4 (Q9 in Chapter 6 p.148)
a) What is the natural rate of unemployment?
Definition: (Natural rate of unemployment) The sum of frictional and search unemployment and
structural unemployment; the rate of unemployment that corresponds to production on the
production possibilities froniter and that cannot be reduced very much by fiscal and monetary
policies. Also called the non-accelerating inflationary rate of unemployment.(P.143)
b) will the following policies undertaken by the government serve to reduce the natural
rate of unemployment?
(i) Tax relief for firms that relocate to economically depressed, high-unemployment areas
of the country.
Yes. (solve structural unemployment related to geographic factors. However, what about those
old wokers?)
(ii) Government training programs for unskilled workers.
Yes.
(iii) Fiscal and monetary policies designed to restore the economy to full employment.
No.
EC 132 Discussion Note PS1
CHIU
P.3
Question 5
Suppose the typical U.S. family spends its income each year as follows: 20% on food,
30% on clothing, and 50% on housing. Suppose, also that the inflation rates for food,
clothing, and housing last year were, respectively: 6%, -3% and 12%. What would be the
overall inflation rate for the year as measured by the consumer price index?
20%*6%+30%*(-3%)+50%*(12%) = 1.2% - 0.9% + 6% = 6.3%
Definition: (Inflation) Continuing increases in the level of prices generally, usually expressed as
a percentage rate of increase. (P.150)
Question 6 (Q3 in Chapter 7 p.175)
The values of the CPI for the United States from December 2005 through December 2008
were
2005: 195.3
2006: 201.6
2007: 207.3
2008: 215.3
a) What were the rate of inflation in the United States as measured by the CPI in 2006,
2007 and 2008?
2006: 201.6/195.3 - 1 = 3.22%
2007: 207.3/201.6 - 1 = 2.83%
2008: 215.3/207.3 - 1 = 3.86%
Definition: (Consumer price index, CPI) A price index based on a market basket of consumer
goods and services purchased by the typical household.
b) What was the cumulative rate of inflation from December 2005 to December 2008?
Cumulative: 215.3/195.3 - 1 = 10.24%
Question 7 (Q5 in Chapter 7 p.175)
a) Why is not true that inflation robs everyone of purchasing power?
Short run: Not everyone hold cash. (e.g. borrowers win and lending lose)
Long run: factor price would adjust.
b) What is hyperinflation, and why is it a policy problem?
Definition: (Hyperinflation) An inflation in which prices are increasing very rapidly, causing
people to lose confidence in the country. (P.158)
Hyperinflation makes cash useless as medium of exchange, unit of account, store of value and
standard of deferred payment.
Then monetary policy would not be working any more!
EC 132 Discussion Note PS1
CHIU
P.4
I did a wrong question when I was preparing this note. Anyway, I kept it here for your reference.
Question 3 (Q5 in Chapter 6 p.148)
a) How does the Bureau of Labor Statistics define and attempt to measure
unemployment?
Definition: (Employed) People who have worked for at least one hour during the week of the
Bureau of Labor Statistics employment survey. (P.130)
Definition: (Unemployed) Those people who are actively seeking employment, but are unable to
find a job. (P.130)
Definition: (Labor force) All people, aged 16 and older, who are either employed or unemployed.
(P.130)
Definition: (Unemployment rate) The ratio of the unemployed to the labor force, expressed as a
percentage. (P.130)
b) What are the limitations of the rate of unemployment as an indication of the nation's
employment problem?
Underemployed and discouraged workers are not counted.
Definition: (Underemployed) Workers who are counted as employed but who are working below
their full capacities, either part time when they want to work full time or at jobs below their skills
levels.
Definition: (Discouraged workers) Those people who have become so discouraged trying to find
an acceptable job that they have dropped out of the labor force.