inflation and unemployment for the sake.pptx

Infilation

1. 1 . Inflation Definition : Inflation is the rate at which the general level of prices for goods and services rises over a period of time, leading to a decline in the purchasing power of money . Types of Inflation: Demand-Pull Inflation: Occurs when aggregate demand exceeds aggregate supply . “Too much money chasing too few goods.” Common during economic booms. Cost-Push Inflation: Caused by rising production costs (e.g., wages, raw materials). Producers pass on higher costs to consumers through higher prices. Built-In Inflation (Wage-Price Spiral): Occurs when workers demand higher wages to keep up with rising living costs , which increases production costs and prices further. Imported Inflation: Results from an increase in the price of imported goods , often due to currency depreciation or rising global commodity prices.

2. Cause of inflation 1. Demand-Pull Inflation (Inflation from High Demand) Definition: Demand-pull inflation occurs when aggregate demand (total spending in the economy) grows faster than the economy's ability to produce goods and services. Key Drivers: Rising household consumption due to higher income or improved employment. Government spending increases , especially without matching productivity (e.g., stimulus programs). Private investment booms , e.g., more factories, real estate, or infrastructure. Exports increase , leading to higher foreign demand for domestic products. Monetary expansion (e.g., low interest rates or high money supply).

3. --- cause of inflation 2. Cost-Push Inflation (Inflation from Higher Production Costs) Definition: Cost-push inflation occurs when the costs of production increase , leading firms to raise their prices to maintain profit margins. Key Drivers: Increased prices of raw materials , such as oil, gas, metals, or agricultural inputs. Wage increases : Higher wages mean higher labor costs for businesses. Currency depreciation : Makes imports more expensive, raising production costs. Supply chain disruptions : War, pandemic, or natural disasters can reduce supply. Taxes and regulation : New taxes or stricter laws can raise costs.

4. --- cause of inflation 3 . Built-In Inflation (Wage-Price Spiral) Definition: This is a self-reinforcing cycle where rising prices cause workers to demand higher wages, and higher wages push firms to raise prices further. Key Drivers: Inflation expectations : People believe prices will continue rising, so they act in ways that make it happen (e.g., asking for higher wages). Strong labor unions or organized labor demand frequent wage adjustments. Indexation : Wages or contracts are linked to inflation, automatically adjusting upward.

5. --- cause of inflation 4. Monetary Causes (Too Much Money Chasing Too Few Goods) Definition: Inflation can result from excessive growth of the money supply relative to economic output. Key Drivers: Central banks printing money excessively . Rapid credit expansion without matching productivity growth. Fiscal deficits financed by borrowing from the central bank (monetary financing).

6. --- cause of inflation 5. External or Imported Inflation Definition: Inflation that originates from international factors , especially in open economies dependent on imports. Key Drivers: Rising global prices of fuel, food, or industrial inputs. Currency depreciation makes imports more expensive. Global supply chain problems (e.g., shipping costs, port closures).

7. Consequence of inflation Reduced Purchasing Power Explanation : When prices rise, the same amount of money buys fewer goods and services. Impact : People’s real income (adjusted for inflation) falls. Households, especially low-income ones, struggle to afford basic needs like food, rent, and healthcare. Example : If inflation is 10% but your salary only rises 5%, you can afford less than before — your real income has decreased.

8. Consequence of inflation 2. Increased Cost of Living Daily expenses for essentials like food, energy, rent, and transportation rise. Can lead to greater poverty and social unrest , especially in countries with weak safety nets. May force people to cut spending on education or health , impacting long-term human development . 3 . Uncertainty and Reduced Investment Inflation creates uncertainty about future costs and returns. Businesses may delay investments or expansion plans. Long-term contracts and planning become difficult. Impact : Economic growth slows down because firms and investors are less confident.

9. Consequence of inflation 4. Savings Lose Value Explanation : Money saved in a bank loses its value if inflation is higher than the interest rate. People shift from saving to spending quickly or buying assets , which can further drive inflation. Example : If your savings earn 5% interest, but inflation is 10%, the real value of your money is shrinking by 5% each year.

10. Consequence of inflation 5. Income Redistribution Fixed income earners (pensioners, salaried workers) suffer as prices rise but incomes don’t adjust quickly. Debtors benefit : They repay loans with money that’s worth less. Creditors lose : They get back money with lower purchasing power . 6 . Distorted Price Signals Inflation makes it harder for consumers and businesses to know the true cost or value of goods and services. This can lead to misallocation of resources in the economy. Example : A sudden rise in prices might be seen as high demand rather than inflation, leading businesses to overproduce

11. Consequence of inflation 7. Balance of Payments Problems Domestic goods become more expensive relative to foreign goods. Exports decline , and imports increase , worsening the trade balance . Can lead to currency depreciation and further inflation (imported inflation). 8. Social and Political Unrest When prices rise sharply (especially for essentials like food and fuel), people may protest. High inflation reduces trust in the government and central bank. Historical example : Food price spikes have contributed to political instability in countries like Tunisia, Egypt, and Venezuela.

12. Consequence of inflation 9. Impact on Government Finance Positive (short-term) : Government may collect more tax revenue because of higher prices (called fiscal drag ). Negative (long-term) : Higher inflation increases the cost of public services. Interest payments on inflation-linked debt rise. Governments may face pressure to raise public wages or subsidies, worsening deficits.

13. Consequence of inflation 10. Hyperinflation (Extreme Case) If inflation spirals out of control, it leads to hyperinflation — extremely rapid and uncontrollable price increases. Consequences : Money becomes almost worthless. People revert to barter trade or foreign currencies. Entire financial systems collapse. Example : Zimbabwe in the 2000s or Venezuela in the 2010s.

14. Possible solution 1. Monetary Policy (By Central Bank) Objective: Reduce the money supply and slow down demand to stabilize prices. A. Raise Interest Rates How it works : Higher interest rates make borrowing more expensive and saving more attractive. Effect : Reduces consumer spending and business investment. Slows down economic activity → reduces inflationary pressure. Example : If people and businesses borrow less for cars, homes, or expansion, overall demand falls, easing price increases.

15. Possible solution B. Tighten Money Supply Central bank can sell government bonds or raise the reserve requirement for commercial banks. Reduces the amount of money circulating in the economy. Example : The U.S. Federal Reserve or European Central Bank often uses such tools during inflationary periods . C. Control Credit Growth Limit the amount banks can lend by setting stricter lending rules. Reduces excessive consumption driven by debt (e.g., credit card use, personal loans).

16. Possible solution 2. Fiscal Policy (By Government) Objective: Reduce public spending and deficits to ease inflationary pressure . A . Reduce Government Spending If the government cuts back on large public projects or salaries, demand in the economy drops. Less demand = less inflation. Example : Cutting non-essential subsidies or deferring major infrastructure projects during high inflation. B . Increase Taxes Raising taxes on income or consumption (e.g., VAT) can reduce people's disposable income. Lower disposable income means reduced consumption. Caution : Tax hikes can hurt the poor the most, so must be carefully targeted. C . Eliminate Budget Deficits Governments should avoid financing budget deficits by printing money, which fuels inflation. Focus on balancing budgets through revenue reform and efficient spending.

17. Possible solution 3. Supply-Side Policies Objective: Increase the productive capacity of the economy and remove bottlenecks. A. Improve Agricultural and Industrial Output Invest in irrigation, seeds, transport, and storage to reduce food prices. Support local industries to reduce dependence on imports. Example : Ethiopia can reduce food inflation by supporting wheat production through extension services and rural infrastructure. B. Reduce Import Dependency Encourage domestic production of goods that are usually imported. Protect the economy from global price shocks. C. Remove Supply Bottlenecks Address transportation, energy, and logistics issues that increase the cost of goods. Build or repair roads, ports, and energy infrastructure to reduce production costs.

18. Possible solution 4. Exchange Rate and Trade Policies Objective: Stabilize the local currency and ensure affordable imports. A . Maintain a Stable Exchange Rate Prevent rapid currency depreciation that makes imports more expensive. Central bank may intervene in forex markets to protect currency value B . Import Subsidies or Strategic Reserves Temporarily subsidize essential imports like fuel or wheat during inflation spikes. Build and manage food and fuel reserves to smooth out price shocks.

19. Possible solution 5. Wage and Price Controls (Short-Term Only) Objective: Stop prices and wages from spiraling out of control in the short term. A. Wage and Price Freeze Government may temporarily freeze prices of essential goods and wages. Useful during emergencies but unsustainable long-term as it distorts markets. B . Monitor Hoarding and Speculation Prevent artificial inflation caused by hoarding, black markets, or price manipulation. Enforce laws against unfair trading and profiteering.

20. Possible solution 6. Improve Inflation Monitoring and Public Confidence A. Strengthen Statistical Systems Reliable inflation data helps governments and central banks respond effectively. B. Transparent Policy Communication Clear communication by the central bank can manage inflation expectations. If people believe inflation will fall, they behave in ways that help reduce it. Example : Clear inflation targets like “keep inflation under 5%” help anchor public expectations

21. Summary of Solutions to Control Inflation Type Solution How It Helps Monetary Policy Raise interest rates Reduce borrowing and demand Tighten money supply Lower excess liquidity Fiscal Policy Cut government spending Decrease public sector demand Increase taxes Reduce private consumption Supply-Side Increase production Improve availability of goods, reduce costs Improve infrastructure Lower cost of production and distribution Exchange Rate Stabilize currency Prevent imported inflation Direct Controls Temporary price/wage freeze Immediate relief, but risky long-term Governance Anti-hoarding, better inflation data Prevent artificial inflation and improve policy response

22. Unemployment What is Unemployment? Unemployment refers to the condition where people who are willing and able to work cannot find jobs . It is measured as the unemployment rate , which is the percentage of the labor force that is jobless and actively seeking work .

23. Types of Unemployment Unemployment can be categorized into different types based on causes and economic conditions. 1. Frictional Unemployment (Temporary Unemployment). Definition : Short-term unemployment that occurs when workers are between jobs or entering the labor market . Causes : Fresh graduates looking for their first job. Workers who quit jobs to find better opportunities. People relocating and searching for work . Example : A software engineer quits his job in one company to look for a better job in another. Solution : Improving job market information so workers find jobs faster.

24. Types of Unemployment 2. Structural Unemployment (Skills Mismatch) Definition : Unemployment that occurs when a worker’s skills do not match the jobs available. Causes : Changes in technology replacing jobs. Decline in certain industries (e.g., manufacturing moving to automation). Workers lack modern skills. Example : A factory worker loses his job due to automation and does not have the skills to work in the IT sector . Solution : Workforce training programs. Education reforms to teach new skills.

25. Types of Unemployment 3 . Cyclical Unemployment (Economic Downturns) Definition : Unemployment caused by a lack of demand for goods and services, usually during recessions. Causes : Economic recessions reduce business profits. Companies lay off workers to cut costs. Consumer demand drops, so businesses reduce production. Example : In a recession, a car company sells fewer cars, so it lays off workers. Solution : Government stimulus spending. Reducing interest rates to boost business investment.

26. Types of Unemployment 4. Seasonal Unemployment (Job Availability Changes by Season) Definition : Unemployment that happens because some jobs are only needed in certain seasons. Causes : Agricultural cycles (e.g., farmers are jobless after harvest). Tourism industry slows in off-seasons. Construction jobs decline in winter months. Example : A tour guide in a beach town is unemployed during winter. Solution : Encourage workers to take different jobs in off-seasons.

27. Types of Unemployment 5. Hidden (Disguised) Unemployment Definition : When people appear employed but are not fully productive. Causes : Too many workers doing a job that requires fewer workers. People working part-time when they need full-time jobs. Example : In a village, five people are working on a farm, but only three are actually needed. Solution : Encouraging business expansion in rural areas. Skill training to shift workers to more productive jobs.

28. 3. Causes of Unemployment Cause Explanation Lack of Education and Skills People are unqualified for available jobs. Economic Recession Businesses close or lay off workers due to lower demand. Technological Changes Machines replace human labor in some industries. Population Growth More people enter the job market than there are jobs available. Rigid Labor Laws Laws that make hiring and firing workers difficult discourage job creation. Political Instability Investors hesitate to create jobs in unstable economies. Discrimination Gender, race, or age discrimination prevents fair job access.

29. 4. Consequences of Unemployment Economic Effects : Lower national income (GDP falls). Reduced tax revenues for the government. Increased poverty and inequality. Social Effects : Increased crime rates (people resort to illegal activities). Mental health issues like depression and anxiety. Political instability and social unrest. Business Effects : Lower demand for goods and services. Reduced company profits.

30. 5. Solutions to Unemployment Solution How It Helps Education & Skill Training Makes workers suitable for modern jobs. Encouraging Entrepreneurship Helps people create their own jobs. Reducing Interest Rates Encourages businesses to expand and hire. Public Infrastructure Projects Government can create jobs by building roads, schools, etc. Investing in Agriculture and Industry Expands job opportunities in rural and urban areas. Flexible Labor Laws Makes it easier for businesses to hire workers.

31. Ethiopia’s Unemployment Situation Ethiopia faces high youth unemployment due to: A growing population entering the job market. Limited job opportunities in urban areas. Dependence on agriculture with seasonal work cycles. Possible solutions for Ethiopia : Strengthen Technical and Vocational Education Training (TVET) programs. Improve access to business loans for young entrepreneurs. Expand industrial parks to create manufacturing jobs. Invest in ICT and digital jobs for the growing tech sector.

32. Basic Relationship: Inflation vs. Unemployment Short-Run Inverse Relationship When unemployment falls , more people have jobs and income, leading to increased demand for goods and services. Higher demand can lead to higher prices — i.e., inflation . Conversely, when unemployment rises , demand drops, and inflation tends to decrease . This gives rise to the Phillips Curve : Lower unemployment → higher inflation Higher unemployment → lower inflation

33. The Phillips Curve Origin Based on a study by A.W. Phillips (1958), who found that in the UK, when unemployment was low, wages and inflation rose, and when unemployment was high, inflation slowed. Implication (Short Run): Governments may face a trade-off : Reducing unemployment might increase inflation. Reducing inflation might increase unemployment.

34. The Phillips Curve Short Run vs. Long Run Short Run: The inverse relationship often holds. For example, during economic booms: Companies hire more → unemployment falls. But wages and prices rise → inflation increases. Long Run: Economists like Milton Friedman and Edmund Phelps argued that the trade-off is only temporary . In the long run , the economy returns to a natural rate of unemployment (also called NAIRU – Non-Accelerating Inflation Rate of Unemployment), and inflation is mainly determined by money supply and expectations , not unemployment. In the long run : No trade-off → Phillips Curve becomes vertical .

35. stagflation When the Relationship Breaks Down Definition : Stagflation = High unemployment + High inflation (rare but serious). Causes : Supply shocks (e.g., oil crisis, war). Poor policy choices (excessive money printing, price controls). Example : In the 1970s, many Western countries experienced high inflation and high unemployment due to oil price shocks — breaking the traditional Phillips Curve.

36. Recent Perspectives: Inflation Expectations Matter Modern economists argue that people’s expectations about inflation shape actual inflation . For instance: If workers expect high inflation, they demand higher wages. Firms raise prices to cover higher wage costs. This sustains inflation , even without low unemployment. Thus, policymakers now focus more on anchoring inflation expectations than just controlling unemployment.

37. Policy Implications of the Relationship Situation Policy Focus Potential Trade-off High unemployment, low inflation Stimulate demand (e.g., lower interest rates) Risk of inflation Low unemployment, rising inflation Cool down demand (e.g., raise interest rates) Risk of job losses Stagflation Improve supply-side (e.g., energy, production), not just monetary No easy solution

38. Summary Concept Explanation Phillips Curve Shows short-run trade-off between inflation and unemployment. Short-run Lower unemployment tends to raise inflation. Long-run No trade-off — inflation is influenced by expectations and money supply. Stagflation Both high unemployment and inflation — breaks traditional model. Modern View Expectations and supply-side factors also shape inflation and unemployment.

39. Summary Final Insight: In the short run, policymakers must balance inflation and unemployment . In the long run, controlling inflation expectations and improving productivity are more effective and sustainable.