ParkinBade Chapter 19

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Part 2
CHAPTER
19
A First Look at Macroeconomics
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What Will Your World Be Like?

• Will tomorrows world be more prosperous than
  today?
• Will jobs be plentiful?
• Will the cost of living be stable?
• Will the government and the nation go into
  deficit again?
• How does your standard of living compare with
  that of your parents or a University student from
  China?
• What will happen in the economy (inflation, jobs,
  etc) when the government changes the tax rates or
  the Bank of Canada changes the interest rate?

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Origins and Issues of Macroeconomics

• Economists began to study economic growth,
  inflation, and international payments during the
  1750s.
• However, the modern macroeconomics dates from the
  Great Depression, a decade (1929-1939) of high
  unemployment and stagnant production throughout
  the world economy.
• John Maynard Keynes book, The General Theory of
  Employment, Interest, and Money, began the
  subject.

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Origins and Issues of Macroeconomics

• Short-Term Versus Long-Term Goals
• Keynes focused on the short-termon unemployment
  and lost production.
• In the long run, said Keynes, were all dead.
• Later during the 1970s and 1980s, macroeconomists
  became more concerned about the
  long-terminflation and economic growth.

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Growth and Fluctuations

• Economic growth is the expansion of the economys
  production possibilitiesan outward shift of PPF.
• We measure economic growth by the increase in
  real GDP.
• Real GDPreal gross domestic productis the value
  of the total production of a nation from all the
  sources such as farms, factories, shops, and
  offices, measured in the prices of a single year
  or base year. Currently the base year is 1997.

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Growth and Fluctuations

• Economic Growth in Canada
• Figure 19.1 shows real GDP in Canada from 1961 to
  2005.

• The figure highlights
• Growth of potential GDP
• Fluctuations of real GDP around potential GDP

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Growth and Fluctuations

• Potential GDP is the value of real GDP when all
  the economys labour, capital, land, and
  entrepreneurial ability are fully employed.
• During the 1970s and early 1980s, the growth of
  real GDP per person sloweda phenomenon called
  the productivity growth slowdown.

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Growth and Fluctuations

• Fluctuations of Real GDP Around Trend
• Real GDP fluctuates around potential GDP in a
  business cyclea periodic but irregular
  up-and-down movement in production.

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Growth and Fluctuations

• Every business cycle has two phases
• A recession
• An expansion
• and two turning points
• A peak
• A trough
• Figure 19.2 on the next slide illustrates these
  features of the business cycle.

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Growth and Fluctuations

• Canadas most recent business cycle.

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Growth and Fluctuations

• A recession is a period during which real GDP
  decreases for at least two successive quarters.
• An expansion is a period during which real GDP
  increases.
• A growth recession occurs when real GDP growth
  rate is positive but slows so that real GDP is
  below potential GDP.

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Growth and Fluctuations

• Recession are rare. However, an economy usually
  suffers growth recessions.

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Growth and Fluctuations

• Figure 19.3 shows the long-term growth trend and
  cycles.

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Growth and Fluctuations

• Economic Growth Around the World
• Figure 19.4(a) shows the growth rate of real GDP
  per person in Canada alongside those of the
  worlds three largest economies.

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Growth and Fluctuations

• During the 1960s, Japans growth rate was much
  faster than the others.
• After the 1970s, all four growth rates were
  similar.
• Canadas growth rate has been a bit less than
  the U.S. growth rate.

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Growth and Fluctuations

• Figure 19.4(b) compares Canadas economic growth
  with that in several countries and regions from
  1980 to 2004.
• Asia has been the fastest growing region in the
  global economy.

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Growth and Fluctuations

• The Lucas Wedge and Okun Gap
• How costly are the productivity slowdown and the
  lost output as real GDP fluctuates around
  potential GDP in a business cycle?
• To answer that question we measure
• The Lucas wedge
• The Okun gap

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Growth and Fluctuations

• The Lucas Wedge
• The Lucas wedge is the accumulated loss of output
  from a slowdown in the growth rate of real GDP
  per person.
• Canadian Lucas wedge that arises from the
  productivity slowdown of the 1970s is 11.5
  trillion or 10 years GDP at the 2005 level.

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Growth and Fluctuations

• The Okun Gap
• a gap between potential GDP and actual real GDP
  (output gap).
• The value of lost output due to Okun gap since
  1974 is 173 billion. Thus the cost of
  productivity slow down is much more higher than
  business cycle recessions.

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Growth and Fluctuations

• Benefits and Costs of Economic Growth
• The Lucas wedge is a measure of the dollar value
  of lost real GDP if the growth rate slows. This
  cost translates into real goods and services.
• It is a cost in terms of an inferior Canadian
  health-care system, fewer child-care services,
  worse roads, and less to spend on cleaner air,
  cleaner lakes, and more trees.
• But fast growth is also costly. Its main costs is
  forgone current consumption. To sustain growth,
  resources must be allocated to advancing
  technology and accumulating capital rather than
  to current consumption.

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Jobs and Unemployment

• Jobs
• The Canadian economy creates about 220,000
  additional jobs a year, on the average.
• But the number fluctuates.
• Since 2000, the economy created 1.6 million
  additional jobs, but during the 1991 recession,
  260,000 jobs disappeared.
• In Dec. 2008, Canada lost 34,400 jobs and U.S.
  524,000 jobs. In 2008 alone U.S. lost 2.6 million
  jobs.

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Jobs and Unemployment

• Unemployment is a state in which a person does
  not have a job but is available for work, willing
  to work, and has made some effort to find work
  within the previous four weeks.
• The labour force is the total number of (working
  age) people who are employed and unemployed.
• The unemployment rate is the percentage of the
  people in the labour force who are unemployed.
• A discouraged worker is a person available for
  work, willing to work, but who has given up the
  effort to find work.

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Jobs and Unemployment

• Unemployment in Canada
• During the 1930s, the unemployment rate hit 20
  percent.
• The lowest rate occurred during World War II at
  1.2 percent.

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Jobs and Unemployment

• During recent recessions, the unemployment rate
  increased but not as high as in the Great
  Depression.
• The unemployment rate is never zero. Since World
  War II, it has averaged 6.7 percent.

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Jobs and Unemployment

• Unemployment Around the World
• Figure 19.7 compares the unemployment rate in
  Canada with those in Japan, Western Europe, and
  the United States.
• Unemployment is higher in Canada, on the average,
  than in the other countries shown.

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Jobs and Unemployment

• Why Unemployment Is a Problem?
• Unemployment is a serious economic, social, and
  personal problem for two main reasons
• Lost production and incomes
• Lost human capital
• The loss of a job brings an immediate loss of
  income and productiona temporary problem.
• A prolonged spell of unemployment can bring
  permanent damage through the loss of human
  capital.

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Inflation

• Inflation is a process of rising prices.
• We measure the inflation rate as the percentage
  change in the average level of prices or the
  price level.
• The Consumer Price Indexthe CPIis a common
  measure of the price level. The CPI index for the
  base year (1992 in Canada) is 100. Thus if the
  2007 CPI index is 120, that means prices on the
  average are 20 higher in 2007 than that in 1992.

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Inflation

• Inflation in Canada
• Was low in the first half of the 1960s.
• Increased in the 1970s and early 1980s.
• fell down in the 1980s and 1990s.
• Kept inside a target band since early 1990s.

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Inflation

• The inflation rate fluctuates, but it is always
  positivethe price level has not fallen during
  the years shown in the figure.
• A falling price levela negative inflation
  rateis called deflation.

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Inflation

• Inflation Around the World
• Figure 19.9(a) shows the inflation rate in Canada
  compared with other countries.
• Canadian inflation has been similar to that in
  other industrial countries.

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Inflation

• Figure 19.9(b) shows the inflation rate in
  industrial countries has been much lower than
  that in developing countries.
• Inflation rate higher than 50 a month is called
  hyperinflation. Most recently DR of Congo
  suffered an inflation rate of more than 23,000 a
  year.

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• Inflation rate in Zimbabwe topped 2.2 million
  percent in 2008.

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Inflation

• Is Inflation a Problem?
• Unpredictable changes in the inflation rate are a
  problem because they redistribute income in
  arbitrary ways between employers and workers and
  between borrowers and lenders.
• A high inflation rate is a problem because it
  diverts resources from productive activities to
  inflation forecasting and avoiding inflation.
• Eradicating it is costly because it causes higher
  unemployment.

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Surpluses and Deficits

• Government Budget Surplus and Deficit
• If a government collects more in taxes than it
  spends, it has a budget surplus.
• If a government spends more than it collects in
  taxes, it has a budget deficit.
• Budget deficit swells during recession From 1982
  to 1996, Canadas deficit was more than 2 of
  GDP.
• Canada started having surplus since 1998.
• When govt or nation has deficits, it must borrow
  and must pay interest on the debt.

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Surpluses and Deficits

• Federal government had
• deficits during the 1970s through the 1990s
• surpluses since 1998.
• Provincial governments had
• Surpluses during the 1960s and 1970s and
• Large deficits in the early 1990s.

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Surpluses and Deficits

• International Surplus and Deficit
• If a nation imports more than it exports, it has
  an international deficit.
• If a nation exports more than it imports, it has
  an international surplus.
• Current Account Balance Exports Imports
  (net interest received from the rest of the world
  - net interest paid).

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Surpluses and Deficits

• Figure 19.10(b) shows Canadas current account
  balance from 1960 to 2005.
• Persistent current account deficit most of the
  time
• Surpluses during the past five years

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Macroeconomic Policy Challengesand Tools

• Five widely agreed policy challenges for
  macroeconomics are to
• Reduce unemployment
• Boost economic growth
• Stabilize the business cycle
• Keep inflation low
• Reduce government and international deficits

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Macroeconomic Policy Challengesand Tools

• Two broad groups of macroeconomic policy tools
  are
• Fiscal policymaking changes in tax rates and
  government spending. When the economy is in
  recession, government can cut taxes to boost
  consumption and investment.
• Monetary policyThe bank of Canada conducts
  monetary policy by changing interest rates and
  changing the amount of money in the economy. By
  lowering the interest rate the BOC can inject
  money into the economy and help expand it.