Natural Rate of Unemployment - Essay Example

1. The formula to calculate unemployment rate (U) is U = (Number of Unemployed Workers/Total Labour Force) X 100 U (1991) = (8 400 000 108 500 00)X 100 U (1991) = 7.74% 2. Total employed workers for year 1991 = 108 500 000 – 1 200 000 = 107 300 000 Total unemployed for year 1991 = 8 400 000 + 1 200 000 = 9 600 000 U = (Number of Unemployed Workers/Total Labour Force) X 100 U (1991) = (9 600 000 / 107 300 000) X 100 U (1991) = 8.95% The difference between answers in question 1 and 2 occurs because we have two main determinants of U, (1) number of unemployed workers and (2) total labour force. As total labour force decreases and number of unemployed rise, UR increases. 3. Natural rate of unemployment is unemployment that is triggered by other factors than fluctuations in demand occurring during business cycles. Natural rate of unemployment exists in circumstances, in which all individuals who are willing to work have found jobs, therefore no involuntary unemployment exists. Those who remained voluntary unemployed are searching for better jobs with better conditions, locations, and compensation. Every labour market depending on the economy has its own fluctuations and structural characteristics. In addition, every job always retains its core characteristics like working conditions, required qualifications, working hours and compensation. Furthermore, each employee is represented through professional qualifications, personal abilities and work expectations. Practically, employment occurs when an employee and particular position are matched. In any economy, there are situations when some positions remain unfulfilled, qualified workers are unemployed and some workers are not included in the labour force. When employees and positions are matched poorly and those employees remain in labour force, this trend results in both additional vacancies and additional unemployment. Partially, natural rate of rate is determined by the dynamics of new job creation and termination of current jobs because of decision made on microlevel by individual employees and businesses. Therefore, if other aspects of the economy remain constant, simultaneous creation and termination of jobs leads to a higher rate of unemployment. In addition, turnover rates among current employed workforce are also associated with higher unemployment, and are significantly influenced by the nature of jobs and the age mix of the adult population. 4. According to McConnell, Brue and Flynn (2008), inflation is defined as the rate at which the general level of prices for goods and services is increasing, and, subsequently, purchasing power of consumers is decreasing. From this definition, it is evident that inflation is a negative economic trend. Indeed, two digit inflation rate indicators in the early 1980s in the United States are a good illustration for “bad” inflation. General decline in purchasing power, particularly among consumers with fixed income, compromised competitiveness of domestic products on international markets, creditors’ losses from financial uncertainty among businesses and investors, which eventually damages country’s economic output, are all the consequences of “bad” inflation (Vane and Snowdon, 2002). From the critical perspective, “bad” inflation is usually a distinctive characteristic of emerging economies. “Good” inflation or in economic terms inflation that can be successfully targeted has a positive impact on the economy, stimulating its growth. Central banks can lower interest rates to stimulate demand and preventing the emergence of liquidity crisis. Maintaining low and stable inflation is believed to be the most important goal of central banks, while other goals include stabilising output close to its potential level and stabilising the exchange rate. Wide adoption of inflation targeting in the 1990s has helped lowering and stabilising inflation in many countries, including the Unites States and the United Kingdom. Cecchetti and Ehrmann (2002) compare the 1985 to 1989 period with 1993 to 1997 for a set of 23 industrialised and emerging market countries and find that annual inflation fell by an average of five percentage points, annual growth rose by an average of one percentage point, and both were significantly more stable.Stable inflation rate significantly contributes to positive inflation expectations, which in turn stimulate investment and financing intentions. Moreover, it is important to understand that when it comes to expectations, monetary policy is built on trust, not unlike money or the financial system. If it is necessary, central banks can convince the public that they are really serious about lowering and stabilising inflation by announcing an inflation target, working to achieve that target, and being held accountable when the target is missed, - and it can trigger very positive outcomes for economy because of raised expectations. Therefore, central banks need to find the right balance between performing monetary policy optimally and earning the public’s trust. REFERENCES McConnell C., Brue S., and Flynn S. 2008. Macroeconomics, McGraw-Hill/Irwin. Stephen G. Cecchetti and Michael Ehrmann.2002. Does inflation targeting increase output volatility? an international comparison of policymakers’ preferences and outcomes. volume Monetary Policy: Rules and Transmission Mechanisms Retrieved from Sept 26, 2010 Vane V., and Snowdon, B. 2002. Encyclopedia of Macroeconomics.Edward Elgar, London Read More