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2008-2009 Edition
Chapter 10: Inflation &
Unemployment
Victoria Wong, Kevin Chan, Kelvin Leung, Rachel Lam
Strategies to Achieve Price
Stability and Employment
Solutions for inflation
 1. The monetary policy
 protects the value of Canadian dollar by keeping
inflation low and stable
 creates a positive climate for low interest rates
and long term investments, which will
strengthen the economy and generate new jobs
Inflation-control target
 Set the current range within 1 to 3% to prevent significant deflation
 Act as a growth stabilizer to avoid recurrence of the inflationary
“boom-and-bust” cycles in the early 1980s and 1990s
 If inflation is moving towards 1 to 3 % target range, sign that demand
in economy for goods and services needs to be restrained through a
rise in interest rates
 If inflation is moving towards the bottom of the range, demand for
goods and services is low and needs some support by reducing
interest rates
Target for the
Overnight Rate
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Tool to send signal about the direction in
of short-term interest rates to go
Bank may raise interest rates to slow
down borrowing and spending, putting a
brake on inflation
Choosing a Target for the Overnight
Rate, the Bank of Canada picks a level
that it feels will keep future inflation low,
stable and predictable
Solutions for
Unemployment
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Create a National office of Employment – to develop long
term strategies by oversight the Canadian labour market in
order to track trends, analyze data, research problem, and
prepare intervention
Identify growing and potential industries
Update training courses for people to learn current skills for
new jobs
Offer tax incentives for business to hire
Develop reward programs to employers with tax credits for
hiring long-term employed and new trainees
Implement coordinated support programs that workers
participate as part of receiving unemployment benefits and
employers participate as a means of meeting their future
needs for staff
Encourage employers to hire more part-time workers and
companies to promote a new work ethic for workers, such
as reduce work hours, increase leisure and volunteer
activities etc., to allow more workers to be employed.
Discussion Questions
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1. Referring to the article, “Aging society
a threat and an opportunity”, what are
some ways baby boomers can contribute
after they retire?
2. In your opinion, do you believe that
the government is falling behind in dealing
with this situation? If so, what do you
think can be done? If no, why? What
policies are best to deal with the current
economic crisis?
3. Based on the article, what implication
does this have on the economy?
10.1 Inflation
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Inflation a(n) increase in the general level of prices
Deflation a(n) decrease in the general level of
prices
The Consumer Price Index
The consumer price index (CPI) is the most
common measure of inflation.
A “ shopping basket ” of consumer products is used
to monitor price changes.
Simple Consumer
Price Index

Ex. 1
Results of 2000 Survey
Hamburgers
Milkshakes
Prices
Quantity
Consumed
per Month
$2.00
$1.00
10
30
Expenditure
per Month
$20
$30
Weights
$20 ÷ $50 = 0.4
$40 ÷ $50 = 0.6
$50
Prices in 2001
Prices
Hamburgers
Milkshakes
$2.20
$1.05
2001 Price 2000 Quantity
$2.20 x 10 = $22.00
$1.05 x 30 = $31.50
$53.50
Simple Consumer Price Index
Cont.
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This sample survey allows you to compare
prices in the current year those in the
base year.
Ex.2. This shows the items weights for
the major components of the CPI. Among
a variety of Canadian communities, every
month the prices of about 600
representative products are added to the
CPI shopping basket to be calculated.
Typically, rising prices, results to the
percentage increase in the CPI represent
the inflation rate.
Consumer Price Index
Weights (1992) Page 238
Recreation, education,
and reading 10.4%
Health and personal care 4.3%
Transportation 18.3%
Alcoholic beverages and
tobacco products 4.5%
Food 18.0%
Clothing and footwear (6.6%)
Household operations
and furnishings 10.0%
Shelter 27.9%
Nominal versus Real
Income

The CPI can help consumers determine cost of living, or
the amount they must spend on the entire range of goods
and services they buy. A way to determine how a
consumer’s purchasing power is affected by inflation; we
can express one’s nominal income as a real income. The
following formula can be used to determine real income
for a given year.

Real Income= Nominal income
CPI (in hundredths)
Nominal versus Real
Income Cont.

The purchasing power of a current
dollar is inversely related to the
CPI: the lower the CPI, the higher is
the purchasing power of the
nominal income, and vice versa. A
higher standard of living will result
by those whose incomes increase at
a higher rate than the rise in prices.
Limitations of CPI

The CPI does not consider consumer
differences, changes in spending patterns,
and product quality. Consumer
consumptions are only based on an
average household. Using the CPI it can
lead to a bias in the stated inflation rate.
The GDP Deflator
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It is an indicator of price changes for all goods
and services produced in the economy and
weighs them in terms of the economy’s total
output.
It includes quantities that change each year. It
compares prices in the current year with those
in a base year. The values for this index are not
quickly available as values for the CPI. GDP
deflator receives less publicity than the CPI.
GDP Deflator = Nominal GDP x 100
Real GDP
The GDP Deflator Ex.
(1)
Year
2000
2001
2002
(2)
Output of
Microchips
1000
2000
2500
(3)
Current
Price
$0.20
0.30
0.40
(4)
Output at
Current Price
(2) X (3)
$200
600
1000
(6)
(5)
GDP
Output at
Deflator
2000 Price
[(4) ÷ (5)] x 100
(2) X $0.20
$200
400
500
100
150
200
Nominal versus Real GDP

Nominal GDP is expressed in
current dollars, where as real GDP
is expressed in base-year dollars.
The real GDP can be determined by
the following formula:
Real GDP = Nominal GDP
GDP deflator
Nominal versus Real GDP Ex.
(1)
Year
1968
1992
2000
(2)
Nominal GDP
(current $ billions)
(3)
GDP Deflator
(1992 = 100)
(4)
Real GDP
(1992 $ billions)
[(2) ÷ (3)] x 100
$76.3
698.5
1038.8
23.47
100.00
112.73
$325.1
698.5
921.5
.
Inflation’s Effects
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Inflation redistributes purchasing power between incomes, and
borrowing and lending
Many labour unions negotiate adjustments such as the cost-ofliving
Three types of indexation include: fully indexed incomes,
partially indexed incomes, and fixed incomes
During periods of inflation, people who are fully indexed to
inflation rates maintain their purchasing power, while those with
partially indexed or fixed incomes lose purchasing power
Actual inflation > anticipated inflation; Borrowers gain
Actual inflation < anticipated inflation; Lenders win
Actual inflation = anticipated inflation; Lenders and borrowers
are unaffected
Inflation’s Effects
Real interest rate = nominal interest rate –
inflation rate
 Nominal interest rate = desired real interest
rate + inflation premium
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10.2 Unemployment
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The Labour Force Survey
Statistics Canada keeps track of the Canadian
workforce through a monthly survey. This
survey measures the labour force population,
which is a random sample taken form Statistics
Canada for the labour force survey with specific
exclusion.
Labour force refers to people who either have
a job or are actively seeking employment
Participation rate = Labour Force x 100
Labour force population
The Official
Unemployment Rate
Unemployment rate= Unemployed in labour force x 100
Labour Force
Drawbacks of the Unofficial
Unemployment Rate
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The factors affecting the official rates
are:
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Underemployment
Discouraged workers
Dishonesty
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Types of Unemployment
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Frictional Unemployment
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Structural Unemployment
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Cyclical Unemployment
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Seasonal Unemployment
Guess my type of
Unemployment
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Frictional Unemployment
I am a student who has just graduated
from university seeking for career-related
job
Structural Unemployment
I am a manufacturing worker and I lost my
job because of automation in the firm, yet
he does not have skills for working in the
service sector. Hence he’s unemployed.
Guess my type of
Unemployment
Cyclical Unemployment
 I am an auto worker and I often work
overtime when there is a lot of
business demand for cars but be laid
off times when there is less work
Seasonal Unemployment
 I work as a lifeguard at the beach in
the summer but I am unemployed in
the winter
Full Employment
The highest reasonable expectation
of employment for the economy as
a whole
 It is defined in term of natural
unemployment rate
 Includes frictional and at least some
structural unemployment
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Full Employment
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Structural Change
the change from manufacturing sector to
service sector
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Unemployment insurance
Unemployment insurance allows job seekers to
devote more time and effort to search for
employment, hence it increases frictional
unemployment
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Change participation rate
young unskilled workers have a higher frictional
unemployment than experienced workers
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Minimum wages
The Costs of
Unemployment
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The economy losses the output of workers could
have produced.
By calculating the potential output, which is the
measurement of the real output, or GDP,
associated with full employment, we can get the
cost of unemployment for the entire economy.
According to Okun’s Law for every percentage
point that the unemployment rate exceeds the
natural unemployment rate the gap between
potential output and real output is 2.5%.
The Costs of
Unemployment
Ex.5
Given the data as follow:
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Total population 15 years of age and over 4.2 million
Those 15 years of age and over not in the labour force
population 1.4 million
Part-time workers who wish to have full-time jobs 100 000
Part-time workers who do not wish to have full-time job
300 000
Workers with full-time jobs 1.2 million
Unemployed members of the labour force 150 000
The Costs of
Unemployment Exercise
Calculate
 the labour force population
 the labour force
 the participation rate
 the official unemployment rate
 the unemployment rate, include
underemployment and
discouraged workers
Boom, Bust & Echo
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David K. Foot is a well-known Canadian
economist and demographer. He suggests that
our ages can give us insights about our future.
Foot wrote the book Boom, Bust and Echo. It
outlines some of the effects of Canada’s huge
baby-bust generation (people born from 1947 –
1966), Baby-bust generation (people born from
1967-1979), and baby-boom echo generation
(people born from 1980- 1995).
Demography is the study of human populations
used to understand the past and to predict the
future. The 2 key factors to predict: the number
of people in each age group & the probability
the each person will participate to a given
behaviour.
The Baby Boom (1947 – 1966)
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The reason to this was due of the post-war economy which was
robust and young people wanted large families. Another reason
was the high immigration levels prevailed during the 1950’s.
The front-end boomers had a lot of wonderful opportunities
after the vast numbers of young baby-boomers into the
marketplace during the 1970s – 1980s.
Things were tough for the late- 1950s group due to horrendous
obstacles in the market place, and were unable to get their
careers on track. The 3.1 million people born from 1961 to 1966
is referred to the generation X in Douglas Capland’s fictional
novel and the term is still widely used today.
While front-end boomers were earning 30% more than their
fathers by age 30 and back-enders were making 10% less their
fathers.
The Gen-Xers had to cope with their parents. While the 60 year
olds were successful, the father sees his son’s failure as a result
of lack of drive and ambition.
The Baby Bust (1967-1979)
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The commercial introduction of the birth
control pill in 1961 and increase of
women in the labour market led a decline
in fertility over the 1960s.
As a result, this decline in birth rates
became known as baby bust.
These baby busters have little to no
difficulty in finding part-time jobs in high
school, unlike their siblings.
In the 1990s, university entry standards
have declined, hence making it easier for
these baby busters to get into the school
of their choice.
The Baby Echo (1980-1995)
As of 1998, there were 6.5 million members
of the echo generation.
 Like the baby boom, the echo has a
front end born in the 1980s, that will
have an easier ride then its back
end, born in the first half of the 1990s.
 Gen X-II should be better prepared than
its parents were to cope with high
youth employment and other difficulties
associated with a large cohort.