Unemployment and Inflation

Consequences of unemployment: * lost output: - having people who are willing and able to work without jobs is a waste of resources.   - If these people were in work,   goods produced. - ↑ material living standard ↑. * lost tax revenue: - If people were in work, incomes, spending, profits ↑. - More revenue from tax can be collected. - ↑ tax can be spent on services → education etc. - Improves gov. In times of unemployment you will either have to ↑ tax or borrow to maintain gov. spending power. Opportunity cost for gov. = have to pay unemployment benefit ↳ have to transfer funds from other services. Cost to the unemployed: - may suffer from poor health & family break-ups. - loss of income. - loss of status, when they become unemployed. - poverty trap ↳ low income → poverty → children can't go to good schools and perform well → family stay in poverty/unemployed Hysteresis: - unemployment causing unemployment. - Longer people remain out of work, more difficult to find a job ↳ employers reluctant to take on someone who has been out of work for a long time. ↳ may indicate they are not good workers ↳ skills have become rust and out of touch with advances in working methods and technology. - People seek work less actively ↳ Get tired to being at home discouraged after many rejections Benefits of unemployment: * Competition for jobs. ↳ firms able to lower wages → people replaced easily. ↳ lower labor cost → ↓ cost of production ↳ ↓ SRAS ↑ * Significance of this depends on type of unemployment. * ↑ quality of labor - increased competition for jobs, people worried they can be replaced ↳ may work harder to stand out to their employers. ↳ longer hours. ↳ ↑ TL → ↑ LRAS. * Can reduce demand-pull + cost-push inflation. * Makes it easier for firms to recruit workers Consequences of inflation: * Fiscal drag: - People's incomes being dragged into higher tax bands as a result of tax brackets not being adjusted in line with inflation.   - Nominal pay may not increase in line with inflation. - Real disposable income ↓ * Depends whether rate of inflation is large enough to surpass wage rises. * Causes uncertainty: - Complicates households' financial decisions - Difficult to decide how much to save and where to place their savings. - Money in banks worth less → value of savings ↓. - Firms will be uncertain about what their costs will be and what prices they will receive. - ↓ AD. * Harmful effect on countries' trade position: - Loss of international competitiveness. - If country's inflation rate is above its competitors, then its goods will become less competitive. - Cheaper for firms to go to other countries. → ↑ imports ↓ exports ↳ Lower AD. Benefits of inflation: * ↓ demand-pull inflation. - AD increases - ↑ output gap → closer to YFe. * Significance of this point depends on the type of unemployment. * Psychological effect on workers: - nominal wages likely to increase when inflation occurs. - workers will feel like they are being appreciated ↳ even if rise in wages is in money term and not adjusted for inflation. - Firms can alter workers' real pay. * Helps reduce unemployment. ↳ demand is falling, firms will have to reduce their costs. ↳ inflation enables firms to reduce real wages but firms can increase nominal wages by less than production ↑ ↳ cost of ↓ SRAS ↑.