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1303AFE Economics For Decision Making 1

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  • Course Code: 1303AFE
  • University: Griffith University
  • Country: Australia

Question:

a)Why is the underutilisation rate higher than the underemployment rate?

b)The current unemployment rate is 5.6% and the number of people in the labour force is 195,800. Use this information to find the following.

i.How many people are unemployed?

ii.If the working age population is 220,655, what is the labour force participation rate?

c)What will happen to the labour-force participation rate if a change in the law states that stay-at-home mothers must be paid a salary for all the work they do at home? Very briefly explain your answer.

d)In the country of Hypothetica in September 2017 the economic growth rate stood at 2.1% per year and the unemployment rate was 4.5%. Then a series of negative economic events occurred and in September 2018 the government reported the sad news that economic growth rate stood at -1.3%. Nevertheless unemployment also fell, to 4.2%. Explain how the unemployment rate can fall when economic growth also falls.

e)Tara, who lives in Sydney is not a particularly productive worker and she is often unemployed as she gets sacked from her various jobs as she fails to meet her employer’s expectations. Yet for the past 8 months, Tara has not only managed to obtain a job on a part-time basis, but recently was upgraded to a full-time worker despite still being a less than efficient employee. What does Tara’s situation tell you about Australia’s output gap at present, and what does this indicate with respect to the relationship between the actual unemployment rate and the full-employment rate?

Question 2

a)True or false?  The M1 measure of money is a smaller measure of money than the M3 measure of money. Explain your answer.

b)i) Assume that the reserve ratio in a country is 5%.  Calculate the simple money multiplier.

ii)Suppose that customers deposit $2,500 into their banks. Based on the simple money multiplier calculated in part i), calculate the total amount which the money supply in the banking system will eventually increase to.                     

iii)If the reserve ratio decreases to 2.5%, calculate the total amount which the money supply in the banking system will eventually change by. Assume the amount of funds deposited by customers now stands at $2,000.  

c)The Reserve Bank of Australia would like to decrease the interest rates in the economy. What open market operation (OMO) action should the central bank take? Explain in detail the OMO process and its implications for the cash rate, interest rates, inflation and GDP. Draw by hand the effect of the OMO process using the MD-MS diagram.
 

Answer:

The rate of underutilization is the sum of unemployment and underemployment. For this reason, it can be said that the rate of underutilization will be higher compared to the rate of unemployment. Unemployment takes place when a person is actively searching for jobs and is unable to find any job.  Unemployment can be measured by measuring the rate of unemployment where the people who are unemployed are divided by the number of people in the labor force. One of the most frequent measure of unemployment is the rate of unemployment. There are various types of unemployment which are named as frictional unemployment, cyclical unemployment and the structural unemployment.

here the rate of unemployment is 5.6% and the total labor force is 195,800.

=

=10965

  1. Therefore, it can be said that 10965 people are unemployed.
  2. The labor force participation rate is calculated by

Here the working age population is 220655 and the total labor force is 195800.

=×100 = 88.73%

 

Therefore, the labor force participation rate is 88.73 percent.

Usually, the retirees, housewives and the students are not calculated in the labor force. However, when stay at home mothers will be paid for the work they do at home, at that time the it will be calculated in the labor force and the rate will also go up.

A low rate of the economic growth leads to high unemployment. When the growth of economy is low, unemployment is unavoidable because when there will be less demand for goods at that time firms will also produce less and therefore will be require less workers leading to unemployment. In times of recession, firms can also go bankrupt. Also, when there will be presence of uncertainty and negative growth firms will be reluctant to hire workers. Therefore, it can be said that the rate of unemployment and low economic growth are related to each other.

The actual unemployment rate is the summation of frictional, seasonal, structural and also cyclical unemployment. On the other hand, the when the economy is in such a position where the rate of unemployment has fallen to such a level that will not cause any inflation, it is termed a full employment rate.  Tara has not only managed to obtain a job on a part-time basis, but recently was upgraded to a full-time worker despite still being a less than efficient employee.

The various types of money in the money supply are usually measured as MS like M0, M1, M2 and M3. In this case M1 includes M0 and the demand deposits. M2 includes M1 plus the savings deposits along with the certificates of deposits. Lastly M3 is known to include all of M1 which comprises of both M0 and M1. So, it can be said that M1 measure of money is smaller than the M3 measure of money. Therefore, this statement is true.

i) The maximum extent to which the supply of money will be affected by any kind of change in the amount of deposits is termed as the money multiplier.  It also comprises of the ratio of change in the money supply to the change in the deposits. There is an inverse relationship between the effect of money multiplier and the reserve ratio.

Money Multiplier =

== 20

 

Therefore, when the reserve ratio is 5 percent the simple money multiplier will be 20.

  1. ii) The initial customer deposit is found to be $2500. The money multiplier will be having an effect on the money supply. Since the amount of money that is deposited in the banks is $2500, the total amount of money with the reserve ration of 0.5 percent will be calculated in the following way.  = $50000. Therefore, it can be said that when the amount deposited in the bank will be $2500 with the reserve ratio at 5 percent at that time, the money supply will be changing and increasing to $50000.

When the reserve ratio will be decreasing to 2.5% and the fund that is deposited by the customer also changes to $2000, the money supply will also be changing. Therefore, for calculating the money supply the following steps are required

= 2000/0.025 = $8000. When the money deposited will be changing along with the reserve ratio, the total amount of money supply will be changing and will amount to $8000 which will be three thousand more than the previous amount.

The open market operations (OMO) refers to buying and selling o the government securities in the open market for the contraction and expansion of the monetary amount in the financial system. The rate of interests is indirectly affected by the open market operations. A decrease in the money supply means increase in the interest rates. When the central bank either buys or sells securities from the member banks, it is known to engage in open market operations. Therefore, when the central bank will want its interest rate to increase, it will be selling it securities to banks.

The main objectives of the open market operations are also manipulating the short-term rate of interest along with the base money of the economy. It will be selling more of the securities when it wants the rate of interest to rise. Open market operations also known to control the money supply indirectly by targeting the rate of inflation, exchange rate and securities.

Figure 1Change in money supply

Price level

real GDP Demanded

Real GDP supplied

220

200

40

250

150

80

280

110

110

350

50

160

400

30

180

450

20

190

Figure 2 Demand and supply diagram

With the informmation provided above in the following tabel it can be said that the macroeconomic equilibrium will at the the price level 280 where the real Gross domestcic product demanded will be equal to the real gross domestic product supplied at 110.  The initial demand in known to 40 and the maximum real GDP demanded is 190. The initial GDP supplied is 20 and the maximukm is 200. The equilibrium point will be at 110 where the demand equals the supply. The equilibrium point is marked with E in the diagram.

Figure 3 Difference between potential GDP and equilibrium

The gap which is present between the level of real gross domestic product and the potential output is called either inflationary or recessionary gap. When the actual gross domestic product will be less than the gross domestic product at full employment. When the equilibrium occurs at an output that is below the potential Gross domestic product then it is known as the recessionary gap.  The gap that is present between real gross domestic product and potential gross domestic product, it is called inflationary gap. As the equilibrium E is above the potential GDP, therefore this will be going to have an inflationary gap.

 


The short run macroeconomic equilibrium will be taking place when the quantity of the real gross domestic product will be equal to the amount of the real gross domestic product. It can be denoted at the point of intersection of the aggregate demand and short run aggregate supply.  On the other hand, the long run macroeconomic condition will be taking placed when the real gross domestic product will be equal to the potential gross domestic product. It will be taking place when the economy will be on the long run aggregate supply curve. In case of the short run the wages and the prices will not be responding to the changes in the economic conditions.  The price and the wage stickiness will also not allow the economy to achieve its natural rate of employment along with the potential output.

 

Figure 4AD-AS Diagram

When the citizens of America will be cautious with their household spending as a result of less amount of potential gross domestic product, in the short run the consumers will be reducing its demand. The aggregate demand will be shifting to the left and will be going down from AD to AD1. The long run supply curve is denoted by the LRAS. The short run aggregate supply will be shifting from AS to AS1. When the demand curve shifts to the left, the quantity demanded will also fall.

 

Reference list

Adegoriola, A. E., & Siyan, P. (2015). The Relative Impact of Money Supply and Government Expenditure on Economic Growth in Nigeria. Economy, 2(3), 49-57.

Bauer, M. J. R. (2018). Principles of microeconomics.

Baumol, W. J., & Blinder, A. S. (2015). Microeconomics: Principles and policy. Nelson Education.

Cowell, F. (2018). Microeconomics: principles and analysis. Oxford University Press.

Hung, H. F., & Thompson, D. (2016). Money supply, class power, and inflation: Monetarism reassessed. American Sociological Review, 81(3), 447-466.

Nguyen, B. (2015). Effects of fiscal deficit and money M2 supply on inflation: Evidence from selected economies of Asia.

OR

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