4.1: Macroeconomic Performance

Output, price, and employment are three main indicators of macroeconomic activity and performance. Output is a measure of the total quantity of goods and services produced in the economy. It is also a measure of the incomes generated by that production. Price or the price level in macroeconomics is the weighted average of the market prices of all final goods and services produced. The price level reflects the costs of production in the economy. Employment is a measure of the number of jobs involved in the production of goods and services, or, in more refined terms, the number of hours of labour input required to produce the economy’s output.

Real gross domestic product (real GDP) measures output and income. Real GDP is the quantity of final goods and services produced in the economy in a specific time period, say, one year, measured in the market prices of a base year, 2007, for example. (It may also be called GDP in constant 2007 dollars.) As we will see later in this chapter, the production of goods and services generates incomes equal to the value of those goods and services. As a result, real GDP is also the real income in the economy and the quantity of goods and services the economy can afford to buy.

Real GDP: the quantity of final goods and services produced by the economy in a specified time period.

When we look at the economy over time we see that real GDP changes from year to year. Because we measure real GDP in the prices of a base year, the changes we see in real GDP are the result of changes in the quantities of goods and services produced and not the result of changes in prices. This distinction is important. Increased quantities of goods and services provide for increased standards of living in the economy. Increases in prices do not. As a result, we define economic growth as an increase in real GDP, and the annual rate of economic growth is the annual percentage change in real GDP. The rate of growth in real GDP is calculated as follows:

\[\text{Rate of growth of real GDP} = \frac {\text{Real GDP}_{\text{year 2}} - \text{Real GDP}_{\text{year 1}}}{\text{Real GDP}_{\text{year 1}}} \times \:100\]

Economic growth: an increase in real GDP.

Rate of economic growth: the annual percentage change in real GDP.

Recent measures of real GDP in Canada provide an example of economic growth and the calculation of the rate of economic growth. In the year 2013, real GDP in Canada measured in 2007 dollars was $1,681 billion. In 2012, real GDP in 2007 dollars was $1,654 billion. Using these data:

\(\text{Rate of growth of real GDP in} \:2013 = \displaystyle\frac {$1,681 - $1,654}{$1,654} \times \:100 = 1.6%\)

The price level in the economy is a measure of the weighted average of prices of a wide variety of goods and services. Section 2.3 in Chapter 2 explained how a price index is constructed and used to provide a measure of prices in one year compared with prices in a base year. The Consumer Price Index (CPI), for example, compares the cost of a fixed basket of goods and services bought by the typical household at a specific time with the cost of that same basket of goods and services in the base year. It is the most widely used indicator of prices in Canada and is often referred to as the “cost of living.”

Price level: a measure of the average prices of all goods and services produced in the economy.

Price index: a measure of the price level in one year compared with prices in a base year.

Consumer Price Index (CPI): a measure of the cost of living in any one year to the cost of living in a base year.

The Consumer Price Index is a more comprehensive measure of the change in prices from one year to the next, but the simple example in Example Box 4.1 illustrates the how such an index is constructed and what it tells us.

A simple example illustrates the construction of a price index. Suppose a survey of expenditures by university students in the year 2006 gives the information reported in the first three columns in the following table:

This table gives us the cost of weekly expenditures on a basket of five items and the weight of each item in the total expenditure. If we chose 2006 as our base year then the cost of the basket in 2006 prices, $80.50, has an index value of 100 [($80.50/80.50)× 100]. In other words we have a Student Price Index:

\(\text{SPI}_{2006} = 100.0\)

Now we see in the last two columns of the table that this same basket of goods and services in the prices of 2011 would cost $87.20. Then our SPI in 2011 would be:

\(\displaystyle\frac {\text{Cost of basket in} \,2011}{\text{Cost of basket in}\,2006} \times \,100 = \displaystyle\frac {$87.20}{$80.50} \times \,100 = 108.3\)

The index tells us that even though the prices of some things went up and others went down the Student Price Index increased by 8.3%. This was the weighted average increase in prices and the increase in the cost of student expenditures.

Example Box 4.1: Constructing a price index

Today, the base year for the consumer price index is 2002 with a value of 100. Statistics Canada uses a fixed basket classified under eight consumer expenditure categories. The weight or importance of each category is its share of expenditure as determined by consumer expenditure surveys. By visiting the Statistics Canada website, www.statcan.gc.ca, and selecting Consumer Price Index in the Latest Indicators table on the right side of the home page, you can scroll down to a table showing the components of the CPI.

For 2012 Statistics Canada reported a CPI of 121.7 compared to a CPI of 100.0 in 2002. That meant the cost of the basket of goods in 2012 was 21.7 per cent higher than it was in 2002. Prices and the cost of living increased over the 10-year period. At the end of 2013 the CPI was 122.8. Prices had increased again. Inflation is defined as a persistent rise in the general price level as indicated by these increases in the change, as a percentage, in the price level.

Inflation: a persistent rise in the general price level.

The inflation rate is calculated using the same method used for calculating the growth rate in real GDP. For example:

\[\text{Inflation rate for} \,2013 = \displaystyle\frac {\text{CPI}_{2013} - \text{CPI}_{2012}}{\text{CPI}_{2012}} \times \:100\]

Statistics Canada reported the 2013 CPI at 122.8 and the 2012 CPI at 121.7. The inflation rate for 2011 was:

\(\text{Inflation rate for} \,2013 = \displaystyle\frac {122.8 - 121.7}{121.7} \times \:100 = 0.9\)

Statistics Canada also collects and publishes information on the Canadian labour market. It uses a monthly Labour Force Survey of approximately 50,000 Canadian individuals 15 years of age or over living in the provinces of Canada, excluding full-time members of the armed forces, those persons living on Indian reserves, and those in institutions such as penal institutions, hospitals, and nursing homes. The survey provides the data used to estimate the size of the labour force, employment, and unemployment.

Employment is defined as the number of adults (15 years of age and older) employed full-time and part-time and self-employed. Unemployment covers those not working but available for and seeking work. The civilian labour force is those adults who are employed plus those not employed but actively looking for jobs. Based on these concepts, and data on the surveyed population, Statistics Canada reports three key labour market indicators, namely: the participation rate, the unemployment rate, and the employment rate. Employment and unemployment receive most of the media attention and have become familiar indicators of economic conditions. There are, however, two other underlying labour market measures that deserve attention when interpreting the employment and unemployment rates.

Labour force: adults employed plus those not employed but actively looking for work.

Employment: number of adults employed full-time and part-time and self-employed.

Unemployment: number of adults not working but actively looking for work.

The participation rate is the proportion of the surveyed population that is either working or unemployed. It measures the size of the labour force relative to the surveyed population. The participation rate changes as people become more optimistic about finding employment, or discouraged by periods without employment. Discouraged workers want to work but are no longer looking for work because they believe suitable work is not available. As a result they are excluded from the measurement of the labour force and reduce the participation rate. Changes in the participation rate change the size of the labour force and the unemployment rate even if employment and the population are constant.

Participation rate: percent of the population that is either working or unemployed.

\[\text {Participation Rate} = \displaystyle\frac {\text{Labour force}}{\text{Population 15+ yrs}} \times \:100\]

In Canada in 2013 Statistics Canada reported the population 15 years and older was 28.690 million persons and the labour force was 19.079 million persons. These data give:

\(\text{Participation rate in} \,2013 = \displaystyle\frac {19.079}{28.690} \times \:100 = 66.5%\)

The unemployment rate is the number of unemployed persons as a percentage of the labour force. However, because the size of the labour force depends on the participation rate, the choices people make about looking for work, the unemployment rate will rise if people become more optimistic about job prospects and begin to look for work, increasing the participation rate and the labour force. On the other hand, the unemployment rate will decline if some people become discouraged and give up looking for work, reducing the participation rate and the labour force.

Unemployment rate: the number of unemployed persons as a percentage of the labour force.

The unemployment rate is calculated as follows:

\[\text{Unemployment Rate} = \displaystyle\frac {\text{Labour force} - \text{employment}}{\text{Labour force}} \times \:100\]

Statistics Canada reported labour force participation rate of 66.5 percent, a labour force of 19.079 million persons in 2013 and total employment of 17.731 million persons. In that year, 1.348 million persons were unemployed and the unemployment rate was:

\(\text{Unemployment rate for} \,2013 = \displaystyle\frac {19.079 - 17.731}{19.079} \times \:100 = 7.1%\)

Unemployment as measured by the broad unemployment rate has three important components. Cyclical unemployment is unemployment that would be eliminated by a higher level of economic activity without putting increased pressure on wage rates and inflation. Frictional unemployment comes from the dynamics of the labour market as changing labour force participation and employment opportunities mean that it takes time to match job openings with job candidates. Structural unemployment reflects differences in labour force characteristics and employment opportunities as the structure of the economy changes. In combination, frictional and structural unemployment make up the “full employment” level of unemployment. The corresponding unemployment rate is defined as the natural unemployment rate. In recent years in Canada, estimates of frictional and structural unemployment suggest a natural unemployment rate of about 6.0 percent. An unemployment rate persistently below 6.0 percent would create inflationary pressure in the labour market and the economy.

Cyclical unemployment: would be eliminated by higher levels of economic activity.

Frictional unemployment: a result the time involved in adjusting to changing labour force and employment opportunities.

Structural unemployment: caused by changes in economic structure relative to labour characteristics.

Natural unemployment rate: the unemployment rate at “full employment”.

The employment rate is the percentage of the population 15 years of age and over that is employed. Employment rates provide a different perspective on labour market conditions because they are not affected by changes in the participation rate, which can change unemployment rates. If some people become discouraged and stop looking for work the participation rate, the labour force and the unemployment rate decline, but the employment rate is unchanged. The employment rate is calculated as:

\[\text{Employment Rate} = \displaystyle\frac {\text{Employment}}{\text {Population 15+ yrs}} \times \:100\]

Employment rate: percent of the population 15 years of age and over that is employed

In 2013 the population 15 years of age and over was 28.111 million and employment was 17.327 million and the employment rate was:

\(\text{Employment rate in} \,2013 = \displaystyle\frac {17.731}{28.690} \times \:100 = 61.8%\)

The employment rate was lower than the participation rate because some members of the labour force were unemployed.

Table 4.1 gives recent data on the Canadian labour force and labour market conditions using these concepts.

Table 4.1: The Canadian Labour Market, February 2014 (thousands of persons and percent)
Source: Statistics Canada, Labour Force Characteristics, Seasonally Ad-
justed, by Province. Table 282-0087.

Almost every day the media discuss some aspects of economic growth, inflation, and employment. Often these discussions ignore the requirement that employment must grow faster than the growth in the labour force if unemployment is to decline. Good news about ‘job creation’ needs to be tempered by news on labour force growth. These issues often play large roles in elections and discussions of economic policy. In the chapters that follow, we will study causes of changes in output, income, prices and inflation, and employment and unemployment. As a background to that work, consider recent Canadian economic performance.