Chapter Introduction
Section 1: Business Cycles
and Fluctuations
Section 2: Inflation
Section 3: Unemployment
Visual Summary
Do your grandparents talk
about the “good old days”
when gas was 25 cents per
gallon and a loaf of bread cost
10 cents? Compile a list of
things that you have been
purchasing for several years.
Note the prices you paid in the
past and those you are
currently paying. What do you
think accounts for the price
differences? Read Chapter 13
to find out what factors can
lead to economic instability.
1. Economists look at a
variety of factors to assess
the growth and
performance of a nation’s
economy.
2. The labor market, like
other markets, is
determined by supply and
demand.
Section Preview
In this section, you will learn that business cycles
are the alternating increases and decreases in the
level of economic activity.
Content Vocabulary
• business
cycles
• business
fluctuation
• trough
• expansion
• trend line
• recession
• depression
• peak
• depression
scrip
Academic Vocabulary
• innovation
• series
• leading
economic
indicator
• composite index
of leading
economic
indicators
• econometric
model
External shocks like high oil prices
have what kind of impact on the
economy?
A. Drives the
economy up
C
0%
A
C. Economy stays
the same.
A. A
B. B
0% C 0%
C.
B
B. Drives the
economy down
Business Cycles and Fluctuations
• Business cycles and business
fluctuations can interrupt economic
growth.
• Economists predict where economy is
headed so forecasting models and
statistical tools are key to predicting these
changes.
Business Cycles: Characteristics
and Causes
Business cycles are marked
by alternating periods of
expansion and recession.
Business Cycles: Characteristics
and Causes (cont.)
• Phases of the business cycle
– Recession
• Begins when the economy reaches a peak
• Ends when the economy reaches a trough
Business Cycles
Business Cycles: Characteristics
and Causes (cont.)
– Expansion
• Begins after the declining real GDP
bottoms out
• Continues until economy reaches a new peak
Business Cycles: Characteristics
and Causes (cont.)
• The economy would follow a steady
growth path, trend line, if periods of
recession and expansion did not occur.
• Severe recessions can turn into a
depression.
Business Cycles: Characteristics
and Causes (cont.)
• Causes of business cycles
– Changes in capital expenditures
– Innovation and imitation
– Monetary policy decisions
– External shocks
Which may not be a cause of
business cycles?
A. New product developed
B. Rising price of flour
C. New method
of production
D. Federal Reserve
lowers the Federal
Funds Rate.
0%
A
A. A
B. B
C. 0%C
0%
D. D
B
C
0%
D
Business Cycles in the United States
Business cycles have
become much more
moderate since the Great
Depression of the 1930s.
Business Cycles in the United States
(cont.)
• “Black Tuesday,” October 29th, 1929,
marked the beginning of the Great
Depression.
– Between 1929 and 1933, real GNP
declined nearly 50%.
– Unemployment rose nearly 800%.
Business Cycles in the United States
(cont.)
– Average wage plunged from 55
cents/hour to 5 cents/hour.
– One-quarter of all banks failed.
– Depression scrip used because official
paper currency was in short supply
Business Cycles in the United States
(cont.)
• Causes of the Great Depression
– Enormous gap in the distribution of
income
– Easy credit
– Global economic conditions
Business Cycles in the United States
(cont.)
• Real GNP returned to its 1929 high
in 1939.
• Increased government spending and
World War II spending propelled the
economy.
Business Cycles in the United States
(cont.)
• Laws passed and government agencies
were established to prevent another
depression.
– Social Security Act of 1935
– Minimum Wage
– Unemployment programs
Business Cycles in the United States
(cont.)
– Securities and Exchange Commission
– Federal Deposit Insurance Corporation
• After World War II, business cycles had
shorter recessions and longer periods of
expansion.
Which form of legislation that resulted from
the Great Depression do you find most
appealing?
A. Minimum wage law
0%
D
D. Social Security Act
A
0%
A
B
C
0%
D
C
C. Federal Deposit Insurance
Corporation
A.
B.
C.
0%
D.
B
B. Creation of the Securities
and Exchange Commission
Forecasting Business Cycles
Economists use statistics and
models to predict business
cycles.
Forecasting Business Cycles (cont.)
• Methods used to predict business cycles
– Statistical series
• Leading economic indicator
• Composite index of leading economic
indicators (LEI)
The Index of Leading Economic Indicators
Forecasting Business Cycles (cont.)
– Macroeconomic modeling
• Econometric model
How many leading economic indicators
make up the composite index of leading
economic indicators?
A. 8
B. 10
C. 12
D. 6
0%
A
A. A
B. B
C. 0%C
0%
D. D
B
C
0%
D
Section Preview
In this section, you will find out that inflation is
a rise in the general level of prices that disrupts
the economy.
Content Vocabulary
• inflation
• deflation
• price index
• consumer
price index
(CPI)
• market
basket
• base year
• creeping
inflation
• demand-pull
inflation
• hyperinflation
• cost-push
inflation
• stagflation
• creditor
• producer price
index (PPI)
• debtor
• implicit GDP
price deflator
Academic Vocabulary
• construction
• recover
Inflation is
A. when the cost of stables
becomes extremely
inexpensive
A
0%
C
C. a general level
increase in prices
A. A
B. B
0% C 0%
C.
B
B. an exceedingly high
increase in prices
Inflation
• Inflation—increase in the general level
of prices
• Deflation—decline in the general level
of prices
• Both are harmful to the economy and
should be avoided whenever possible.
Measuring Prices and Inflation
Several price indexes are
used to measure inflation.
Measuring Prices and Inflation (cont.)
• Measuring inflation
– Price index for a range of items is
constructed
– Consumer price index (CPI)
• Select a market basket and add up prices to
determine value
• Base year is selected for
comparison.
Constructing the Consumer Price Index
Measuring Prices and Inflation (cont.)
• Dollar cost of market basket is converted to a
price index.
• Percentage change of price index from one
period to another is inflation.
Measuring Prices and Inflation
Measuring Prices and Inflation (cont.)
• Inflationary changes
– Creeping inflation
– Hyperinflation
– Stagflation
Measuring Prices and Inflation (cont.)
• Price indexes are constructed for all
categories of the economy.
– Producer price index (PPI)
– Implicit GDP price deflator
Which price index is used the most
by economists to determine inflation?
A. PPI
B. CPI
0%
D
A
0%
C
D. GDP price deflator
A. A
B. B
C. 0%C
0%
D. D
B
C. CII
Causes of Inflation
Causes of inflation include
strong demand, rising costs,
and wage-price spirals,
along with a growing supply
of money.
Causes of Inflation (cont.)
• Causes for inflation
– Demand-pull inflation
– Cost-push inflation
– Wage-price spiral
– Excessive monetary growth
Profiles in Economics:
Milton Friedman
When the price level goes up, the
purchasing power of the dollar goes
A. Up
B. Down
0%
D
A
0%
C
D. Depends
A. A
B. B
C. 0%C
0%
D. D
B
C. Remains the same
Consequences of Inflation
Inflation can reduce
purchasing power, distort
spending, and affect the
distribution of income.
Consequences of Inflation (cont.)
• Effects of inflation
– Reduced purchasing power
– Distorted spending patterns
The Purchasing Power of the Dollar
Consequences of Inflation (cont.)
– Encourages speculation
– Distorted distribution of income
• Creditors are hurt more than debtors
generally.
Which sector of the economy has
seen recent years of speculation?
A. Real estate
B. Gold
C. Oil
D. Alternative fuel
0%
A
A. A
B. B
C. 0%
C
0%
D. D
B
C
0%
D
Section Preview
In this section, you will find out how
unemployment is measured as well as what
causes it.
Content Vocabulary
• civilian labor
force
• structural
• seasonal
unemployment
unemployment
• labor force
• outsourcing
• unemployed
• GDP gap
• technological • misery index
unemployment
• unemployment
• discomfort index
rate
• cyclical
unemployment
• frictional
unemployment
Academic Vocabulary
• confined
• fundamental
• unfounded
When the government issues that latest
monthly unemployment statistic, is it
accounting for all individuals who are
unemployed?
A. Yes
A. A
B. B
A
0%
0%
B
B. No
Measuring Unemployment
The government takes
monthly surveys to measure
the unemployment rate.
Measuring Unemployment (cont.)
• The civilian labor force or labor force is
the sum of all persons aged 16 and above
who are either employed or actively
seeking employment.
• Unemployed—individuals who are willing,
able, and available to work and actively
seeking employment
Measuring Unemployment (cont.)
• The unemployment rate is equal to the
number of unemployed persons divided by
the civilian labor force.
The Unemployment Rate
Unemployment rate does not include
A. Labor force dropouts
B. Prisoners
C. Military
0%
D
C
A
0%
B
D. All of the above
A. A
B. B
C. 0%C
0%
D. D
Sources of Unemployment
Unemployment is often
caused by circumstances
outside an individual’s control
and is therefore very difficult
to remedy.
Sources of Unemployment (cont.)
• Kinds of unemployment
– Frictional unemployment
– Structural unemployment
• Outsourcing
Sources of Unemployment (cont.)
– Technological unemployment
– Cyclical unemployment
– Seasonal unemployment
Which type of unemployment exists when
consumers change from buying tapes
and cassettes to DVDs and iPods?
A. Frictional
0%
D
0%
A
D. Seasonal
A
B
C
0%
D
C
C. Structural
A.
B.
C.
0%
D.
B
B. Technological
Costs of Instability
Unemployment can cause
uncertainty, political
instability, and social
problems.
Costs of Instability (cont.)
• Recession, inflation, and unemployment
hinder economic growth and have
human costs.
• Cost of unemployment and economic
instability
– Opportunity cost like the GDP gap
Costs of Instability (cont.)
– Misery index or discomfort index
– Uncertainty leads to fewer consumer
purchases.
– Political instability
– Crime, poverty, and family instability
Measuring Consumer Discomfort
Which is not an official government
statistic?
A. Producer price index
B. Misery index
0%
D
A
B
C
0%
D
C
A
0%
A.
B.
C.
0%
D.
B
C. Implicit GDP price
deflator
Business Cycles Economic growth is typically
marked by periods of recession followed by periods
of expansion. A business cycle is the period from
the beginning of one recession to the beginning of
the next.
Inflation The economy faces inflation when the
general level of prices increases. If excessive,
inflation can have a disruptive effect on the
economy.
Unemployment The unemployment rate includes
those individuals who are actively looking for a job
but work less than one hour a week for pay or profit.
It does not include people who are underemployed,
working part-time, or have given up the job search.
Milton Friedman
(1912–2006)
• received the Nobel Prize for
economics for his theories
on economic stabilization
policy
• strong proponent of
monetary policy
business cycles
regular increases and decreases in
real GDP
business fluctuation
irregular increases and decreases in
real GDP
recession
decline in real GDP lasting at least
two quarters
peak
point in time when real GDP stops
expanding and begins to decline
trough
point in time when real GDP stops
declining and begins to expand
expansion
period of uninterrupted growth of
real GDP
trend line
growth path the economy would
follow if it were not interrupted by
alternating periods of recession and
recovery
depression
state of the economy with large
numbers of unemployed people,
declining real incomes, overcapacity
in manufacturing plants, and general
economic hardship
depression scrip
currency issued by towns,
chambers of commerce, and other
civic bodies during the Great
Depression of the 1930s
leading economic indicator
statistical series that turns down
before the economy turns down, or up
before the economy turns up
composite index of leading
economic indicators (LEI)
composite index of 10 economic
series that move up and down in
advance of changes in the overall
economy; statistical series used
to predict turning points in the
business cycle
econometric model
mathematical expression used to
describe how the economy is
expected to perform in the future
innovation
the creation of something new or
different
series
a group of related things or events
inflation
increase in the general level of prices
of goods and services
deflation
decrease in the general level of
prices for goods and services
price index
statistical series used to measure
changes in the price level over time
consumer price index (CPI)
series used to measure price
changes for a representative sample
of frequently used consumer items
market basket
representative selection of goods
and services used to compile a
price index
base year
year serving as point of comparison
for other years in a price index or
other statistical measure
creeping inflation
relatively low rate of inflation, usually
1 to 3 percent annually
hyperinflation
inflation in excess of 500 percent
per year
stagflation
period of slow economic growth
coupled with inflation
producer price index (PPI)
index used to measure prices
received by domestic producers
implicit GDP price deflator
index used to measure price changes
in GDP
demand-pull inflation
explanation that prices rise because
all sectors of the economy try to buy
more goods and services than the
economy can produce
cost-push inflation
explanation that rising input costs,
especially energy and organized
labor, drive up the prices of products
creditor
person or institution to whom money
is owed
debtor
person who borrows and therefore
owes money
construction
creation by assembling
individual parts
recover
to get back
civilian labor force
non-institutionalized part of the
population, aged 16 and over, either
working or looking for a job
labor force
non-institutionalized part of the
population, aged 16 and over, either
working or looking for a job
unemployed
working for less than one hour per
week for pay or profit in a non-familyowned business, while being
available and having made an effort
to find a job during the past month
unemployment rate
percentage of people in the civilian
labor force who are classified as
unemployed
frictional unemployment
unemployment involving workers
changing jobs or waiting to go to
new ones
structural unemployment
unemployment caused by a
fundamental change in the economy
that reduces the demand for some
workers
outsourcing
hiring outside firms to perform noncore operations to lower
operating costs
technological unemployment
unemployment caused by
technological developments or
automation that makes some workers’
skills obsolete
cyclical unemployment
unemployment directly related to
swings in the business cycle
seasonal unemployment
unemployment caused by annual
changes in the weather or other
conditions that reduce the demand
for jobs
GDP gap
difference between what the economy
can and does produce
misery index
unofficial statistic that is the sum of
the monthly inflation and
unemployment rates
discomfort index
unofficial statistic that is the sum of
the monthly inflation and
unemployment rates
confined
kept within
fundamental
basic; an essential part of
unfounded
not based on fact
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