b.When the unemployment rate is low, frictional
unemployment will account for a larger share of
total unemployment because other sources of unemploy-
ment will be diminished. So the share of total unemploy-
ment composed of the frictionally unemployed will rise.
- A binding minimum wage represents a price floor below
which wages cannot fall. As a result, actual wages cannot
move toward equilibrium. So a minimum wage causes the
quantity of labor supplied to exceed the quantity of labor
demanded. Because this surplus of labor reflects unem-
ployed workers, it affects the unemployment rate.
Collective bargaining has a similar effect—unions are able
to raise the wage above the equilibrium level. This will act
like a minimum wage by causing the number of job seek-
ers to be larger than the number of workers firms are
willing to hire. Collective bargaining causes the unem-
ployment rate to be higher than it otherwise would be, as
shown in the accompanying figure. - An increase in unemployment benefits reduces the cost to
individuals of being unemployed, causing them to spend
more time searching for a new job. So the natural rate of
unemployment would increase.
Tackle the Test:
Multiple-Choice Questions
- a
- c
- b
- d
- e
Tackle the Test:
Free-Response Question
- a.Frictional. Melanie is between jobs.
b.Structural. Melanie is unemployed because wages are not
at the market equilibrium.
c.Cyclical. Melanie is unemployed due to an economic
slowdown (recession).
Module 14
Check Your Understanding
- Shoe-leather costs as a result of inflation will be lower
because it is now less costly for individuals to manage
their assets in order to economize on their money hold-
Wage
rate
Quantity
of labor
QD QE
WU
WE
QS
Labor supply
Labor demand
E
Unemployed
Union-
negotiated
wage
ings. ATM machines, for example, give customers
24-hour access to cash in thousands of locations. This
reduction in the cost of obtaining money translates into
lower shoe-leather costs.
- If inflation came to a complete stop for several years, the
inflation rate of zero would be less than the expected in -
flation rate of 2–3%. Because the real interest rate is the
nominal interest rate minus the inflation rate, the real
interest rates on loans would be higher than expected,
and lenders would gain at the expense of borrowers.
Borrowers would have to repay their loans with funds
that had a higher real value than had been expected.
Tackle the Test:
Multiple-Choice Questions - e
- c
- b
- d
- c
Tackle the Test:
Free-Response Question - a.0%
b.You borrowed enough money to buy a couch and paid
back just enough to buy the same couch (after inflation).
Therefore, you gained the benefit of the loan without
paying any real interest for it.
c.Whoever gave you the loan lost. The loan was paid back
after prices unexpectedly increased, so the lender received
a real interest rate of 0% for letting you use the money
for a year.
Module 15
Check Your Understanding
- Pre – frost, this market basket costs (100 ×$0.20) +(50 ×
$0.60) +(200 ×$0.25) =$20 +$30 +$50 =$100. The
same market basket, post - frost, costs (100 ×$0.40) +
(50 ×$1.00) +(200 ×$0.45) =$40 +$50 +$90 =$180.
So the price index is ($100/$100) × 100 =100 before the
frost and ($180/$100) × 100 =180 after the frost, imply-
ing a rise in the price index of 80%. This increase in the
price index is less than the 84.2% increase calculated in
the text. The reason for this difference is that the new
market basket of 100 oranges, 50 grapefruit, and 200
lemons contains proportionately more of an item that
has experienced a relatively small price increase (the
lemons, the price of which has increased by 80%) and
proportionately fewer of an item that has experienced a
relatively large price increase (the oranges, the price of
which has increased by 100%). This shows that the price
index can be very sensitive to the composition of the
market basket. If the market basket contains a large pro-
portion of goods whose prices have risen faster than the
prices of other goods, it will lead to a higher estimate of
the increase in the price level. If it contains a large pro-
portion of goods whose prices have risen more slowly
than the prices of other goods, it will lead to a lower esti-
mate of the increase in the price level.
SOLUTIONS TO AP REVIEW QUESTIONS S-9