Economics
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QUESTION 1
Unemployment at Full Employment
Unemployment refers to a situation where individuals actively searching for jobs are unable to obtain one. On the other, full employment points out to an economic situation where available resources of labor are utilized fully and inefficient ways to produce maximum output. Anyone willing and able to work can easily find a job or move from one job to another.
Ideally, not everyone willing and able to work is constantly employed. This is because labor lacks perfect mobility. The ease with which employees move from one job to another within the economy, or between different economies is labor mobility. Unemployment at this stage is experienced when employees transit from one job to the other. The period of time- two days, or a few months that individuals take between changing jobs are referred to as frictional unemployment. It is temporary and occurs due to the imperfect operations of the market. Hall, Gordon, and Holt (1970) noted down that at full employment; there’s a natural transition where those who finished school actively look for vacant opportunities. Therefore, anyone willing and able to work at the existing wage rate in their area of specialization is employed. However, since it takes time to transit between jobs, unemployment exists.
Alternatively, there are situations where unemployment rises and falls within the normal operations of a business. Cyclical unemployment occurs when the economy goes into recession or boom. Some industries, such as tourism, experience economic cycles where businesses lack demand for labor for them to employ all the people looking for work at that point. During a recession, few employees are required to meet reduced demand- only those needed to satisfy the existing demand. The remaining number of employees with no demand to meet, remain unemployed. In this type of unemployment, economic conditions affect unemployment rates.
Full employment does not indicate zero unemployment rates. Any form of unemployment means that the economy is not operating at full efficiency for productivity. When the number of vacancies is equal to the number of people actively looking for jobs, then the economy is at full employment.
Costs of Unemployment
Unemployment results in consequences – both positive and negative. Focusing on the costs of unemployment, there can be both economic and social costs. Personal and social costs of unemployment include financial hardship and poverty. Unemployed people, who have no alternative means of survival find it hard to make ends meet. They lack enough finances to meet expenses like food and rent or afford school fees. For families to meet their expenses, some individuals may result in taking loans from friends or financial institutions, which they eventually fail to pay back. Continuous disagreements occur in the family set up when dealing with financial difficulty. Also, unemployed people are prone to stress, depression, and violence (Taylor & Saunders, 2002).
The economic costs of unemployment include increased government borrowing. High unemployment rates result in a fall in tax revenue as there are few people contributing income tax. The government has to provide income support to that unemployment, which rises expenditure levels. Unemployment leads to low gross domestic product (GDP) of the economy. The economy is inefficient, and operating under this condition contributes to lower spending and output. Taylor & Saunders (2002) revealed that rising unemployment could cause negative multiplier effect- when the governments reduce its spending, some public sector workers may get unemployed in the process.
QUESTION 2
Consumer price index (CPI) measures the change in prices paid by consumers in households over a period of times, for a basket of goods and services. Changes in the CPI show patterns of cost of living in the United States. This makes it an economic indicator used for measuring inflation and deflation levels in the country. While it is the most used measure for the inflation rate, economists differ on how inflation should be measured.
Moulton (1996) highlights how CPI causes an overstate in inflation rate due to various biases.
- New product bias. Price changes associated with the adoption of new technology used in the production process is not shown in CPI. This is because products are not added to the basket until they are universally consumed.
- Substitution bias. Prices of products in the consumer basket increase overtime consumers tend to substitute higher-priced products for lower-priced products. If prices of apples rise in the market, consumers may opt for pears which is cheaper. CPI is a fixed-weight price index; therefore, it would fail to predict the impact of price changes in the budget.
- Outlet bias. The shift of consumers from one outlet to the other- wholesale or retail, is not indicated in the CPI.
- Quality bias. New technology increases the longevity and usefulness of products. The costs incurred due to depreciation is also included in the index calculation. CPI does not recognize improvements in technology.
QUESTION 3
The state of the economy varies depending on the prevailing economic conditions. the state of the economy can be described as either inflation or deflation. Inflation refers to a general increase in price levels in the economy. At this level, the purchasing power of money is greatly undermined. Makin (2015) indicates that during inflation, the government increases tax revenue, and cuts on spending. These policies reduce inflation by reducing aggregate demand, which in turn reduces inflationary pressure. Some tax policies, such as income tax and Value Added Tax (VAT) reduce the amount of money supply in the economy. Thus, the economy is restored. These are contractionary fiscal policy measures.
Deflation occurs when the overall price levels of products decrease. Reduction in money supply and unavailability of credit services to businesses causes deflation. The government increases its spending and reduces taxation rates to increase the supply of money to the economy. Increased government spending- through investments, transfer payments, and government consumption increases aggregate demand for products (Makin, 2015). Reducing taxes increases the amount of money held by households. Thus, spending increases. These are expansionary fiscal policy measures.
QUESTION 4
Gross domestic product (GDP) measures a country’s output, income, and standard of living. However, it fails to take into consideration other factors that contribute to the standard of living. Diener & Suh (1997) explore reasons why GDP is not an efficient indicator for standard of living.
- GDP fails to consider non-market transactions. The calculation of GDP is based on transactions that take place in the legal market. Notably, trade takes places on several platforms which, when taken into consideration, reflect on higher standards of living. Thus, an increase in the GDP of the country.
- It does not account for the degree of income inequality in society. People in society earn different levels of income, which allows them to live within their means. GDP considers and sets a standard for which the low, middle, and high-income individuals are measured.
- GDP does not take into account how leisure activities contribute to the standard of living. If people worked 7 days a week, with 12-hour shifts, increases output in the country. However, having long working hours does not mean people will be less productive if they had leisure time to enjoy social activities.
- It does not measure the quality of the environment. Output in the country might be increased if the government eased pollution regulations for factories. Yet, high GDP does not contribute to a higher standard of living where air and water pollution are prevalent.
- GDP fails to indicate whether the rate of growth in the nation will sustain high standards of living, or cause a strain in income in future.
Alternative ways of measuring standard of living include:
- Human development index (HDI). The United Nations developed the concept. It comprises three basic factors which are life expectancy, literacy levels, and real Gross Domestic Income per capita.
- Human poverty index (HPI). It similar to HDI but extensively covers how economic development is distributed in society.
References
Diener, E., & Suh, E. (1997). Measuring quality of life: Economic, social, and subjective indicators. Social indicators research, 40(1-2), 189-216.
Hall, R. E., Gordon, R. A., & Holt, C. (1970). Why is the unemployment rate so high at full employment? Brookings papers on economic activity, 1970(3), 369-410.
Makin, A. J. (2015). Expansionary versus contractionary government spending. Contemporary Economic Policy, 33(1), 56-65.
Moulton, B. R. (1996). Bias in the consumer price index: what is the evidence? Journal of Economic Perspectives, 10(4), 159-177.
Taylor, R., & Saunders, P. (Eds.). (, 2002). The price of prosperity: The economic and social costs of unemployment. UNSW Press.