ECON 205 2nd Edition Lecture 23 Outline of Last Lecture I Review of the Fiscal Clif II New Classical and Supply Side Economics III Keynes Macroeconomics IV GDP Growth and Inflation V Currency Overvaluation and the Trade Deficit Practice Questions Outline of Current Lecture I Consumption function and Investment II Types of Unemployment III Economic Growth IV Types of Inflation V Government Economic Actions Current Lecture I Consumption Function and Investment The slope of the consumption function is the marginal propensity to consume Therefore the marginal propensity to save is the slope of the savings function The multiplier is equal to the reciprocal of the marginal propensity to save Lastly the marginal propensity to save added to the marginal propensity to consume is one The major diference between the consumption and investment functions is the consumption function is stable while the investment one is volatile This is why investment is the main source of the business cycle Behind investment is rate of return on investment The rate of investment is related to the marginal efficiency of capital and income We pay interest to get current gratification and we have to postpone our payment by interest II Types of Unemployment Structural unemployment is a mismatch between supply and demand especially in certain industries such as aerospace engineering Cyclical unemployment is caused by economic cycles while seasonal unemployment is unemployment by seasons like farming Lastly frictional unemployment is the unemployment rate for people who are between jobs III Economic Growth The theoretical aspect of economic development is that some countries grow while others do not Some economists believed that it was a permanent situation that rich countries would always stay wealthier than poorer nations However we now talk about convergence that of poorer countries catching up to richer countries Since trade is a major aspect of economic development we include trade in economic calculations A closed economy is a model that only includes consumption investment and government expenditures An open economy however includes net exports as well IV Types of Inflation Normal inflation is the 1 3 that occurs each year Cost push inflation is when the costs of production increase such as labor unions leading to higher prices Demand pull inflation is when the aggregate demand is increased due to government expenditures or even the private or exporting sector The costs of production are labor capital rent and resources land V Government Economic Actions The policy of the government should be to reach full employment stabilize prices and promote adequate growth of GDP However many economists believe that there is a natural rate of unemployment approximately 6 If unemployment rises over that percentage the government should undertake countercyclical measures Some automatic countercyclical measures are unemployment benefits money given for some weeks to unemployed persons and welfare benefits like food stamps Other discretionary measures are emergency bailout measures that lend money to certain industries that earn interest for the government