Part 4 [The Real Economy In The Long Run] - 7. Production and growth - 8. Saving, Investment, and the financial system - 9. Unemployment and it's natural rate Flashcards Preview

Intro Macro > Part 4 [The Real Economy In The Long Run] - 7. Production and growth - 8. Saving, Investment, and the financial system - 9. Unemployment and it's natural rate > Flashcards

Flashcards in Part 4 [The Real Economy In The Long Run] - 7. Production and growth - 8. Saving, Investment, and the financial system - 9. Unemployment and it's natural rate Deck (185):
1

What determines Robinson Crusoe's standard of living and why?

Because Crusoe gets to consume only what he produces, his living standard is tied to his productivity.

2

What is productivity?

The quantity of goods and services that a worker can produce for each hour of work.

3

What is the key determinant in the growth of living standards?

Growth in productivity.

4

What are the determinants of productivity?

Physical capital
Human capital
Natural resources
Technological knowledge

5

What is physical capital and why is physical capital per worker a determinant of productivity?

(Physical) capital is the stock of equipment and structures that are used to produce goods and services.
Workers are more productive if they have tools with which to work.

6

What is an important feature of capital as a factor of production?

It is a produced factor of production. Capital is an input into the production process that in the past was an output from the production process.

7

What is human capital?

The economist's term for the knowledge and skills that workers acquire through education, training, and experience.

8

How is human capital similar to physical capital?

Like physical capital, human capital raises a nation's ability to produce goods and services.
Also like physical capital, human capital is a produced factor of production.

9

In terms of productivity, what is an important way to view the development of human capital?

Students can be viewed as "workers" who have the important job of producing the human capital that will be used in future production.

10

What are natural resources?

Natural resources are inputs into production that are provided by nature, such as land, rivers, and mineral deposits.

11

What are the two forms of natural resources?

Renewable and Non-renewable.

12

Describe the role of natural resources in a nation's standard of living.

Although differences in natural resources are responsible for some of the differences in standards of living around the world, natural resources are not necessary for an economy to be highly productive.

13

What is technological knowledge?

The understanding of the best ways to produce goods and services.

14

Describe the difference between human capital and technological knowledge.

Technological knowledge refers to society's understanding about how the world works. Human capital refers to the resources expended transmitting this understanding to the labor force.

15

Describe the difference between human capital and technological knowledge in relation to productivity using the textbook metaphor.

Knowledge is the quality of society's textbooks, whereas human capital is the amount of time that the population has devoted to reading them. Worker's productivity depends on both the quality of textbooks they have available and the amount of time they have spent studying them.

16

Briefly explain why saving and investment are important for productivity.

If today the economy produces a large quantity of new capital goods, then tomorrow it will have a larger stock of capital and be able to produce more of all types of goods and services. Thus, one way to raise future productivity is to invest more current resources in the production of capital.

17

Why is the principle "people face trade-offs" especially important when considering the accumulation of capital?

It requires that society sacrifice consumption in the present in order to enjoy higher consumption in the future. Because resources are scarce, devoting more resources to producing capital requires devoting fewer resources to producing goods and services for current consumption.

18

What quickly and efficiently brings savings and investment together with minimal risk and in a transparent way, and is also a critical ingredient in the recipe for economic growth?

A well-functioning and carefully regulated financial market.

19

Suppose that a government pursues policies that raise the nation's saving rate. What happens?

With the nation saving more, fewer resources are needed to make consumption goods, and more resources are available to make capital goods. As a result, the capital stock increases, leading to rising productivity and more rapid growth in GDP.

20

What is the property of diminishing returns?

The property whereby the benefits from an extra unit of an input declines as the quantity of the input increases.

21

Describe how capital accumulation is subject to diminishing returns.

When workers already have a large quantity of capital to use in producing goods and services, giving them an additional unit of capital increases their productivity only slightly.

22

What is the first important implication of diminishing returns on to capital accumulation.

In the long-run, the higher saving rate leads to higher level of productivity and income, but not to a higher growth in these variables.

23

What is the second important implication of diminishing returns on to capital accumulation.

The catch-up effect.

24

What is the catch-up effect?

The property whereby countries that start off poor tend to grow more rapidly than countries that start off rich.

25

Explain the catch-up effect.

In poor countries, workers lack even the most rudimentary tools and, as a result, have low productivity. Small amounts of capital investment would substantially raise these workers' productivity.

26

Explain why rich countries don't benefit from the catch-up effect.

Workers in rich countries have large amounts of capital with which to work, and this partly explains their high productivity. Yet with the amount of capital per worker already so high, additional capital investment has a relatively small effect on productivity.

27

Other than saving from domestic residents, what is the other way for a country to invest in new capital?

Investment by foreigners.

28

What is FDI?

Foreign domestic investment is a capital investment that is owned and operated by a foreign entity.

29

What is a foreign portfolio investment?

An investment that is financed with foreign money but operated by domestic residents.

30

What do both FDI and foreign portfolio investments have in common?

In both cases, foreigners provide the resources necessary to increase the capital stock of the domestic country. That is, foreign saving is being used to finance domestic investment.

31

Why do foreigners invest in another country?

Because they expect to earn a return on their investment.

32

How will GNP and GDP differ due to foreign investment?

When foreigners open, say, an assembly plant in another country, some of the income the plant generates accrues to people who do not live in that foreign country. As a result, foreign investment raises the income of domestic citizens (GNP) by less than it raises the production there (GDP)

33

Why should a poor country accept investment from abroad if much of the benefits from this investment flow back to foreign owners?

The investment increase the economy's stock of capital, leading to higher productivity and wages.
Moreover, investment from abroad is one way for poor countries to learn the state-of-the-art technologies developed and used in richer countries.

34

Name the organization that tries to encourage the flow of capital to poor countries and describe how it goes about doing this.

The World Bank. This international organization obtains funds from the world's advanced countries and uses these resources to make loans to less-developed countries so that they can invest in roads, sewer systems, schools, and other types of capital. It also offers the countries advice about how the funds might best be used.

35

What was one lesson learned from WWII which inspired the creation of the world bank and the IMF?

Economic distress often leads to political turmoil, international tensions, and military conflict. Thus, every country has an interest in promoting economic prosperity around the world.

36

What is one way (relating to human capital) that government policy can enhance the country's standard of living?

By providing good schools and encouraging the population to take advantage of them.

37

How does education convey positive externalities?

An educated person might generate new ideas about how best to produce goods and services, which may enter society's pool of knowledge, allowing everyone to use them.

38

What is the problem facing some poor countries in regards to human capital?

The brain drain - the emigration of many of the most highly educated workers to rich countries, where these workers can enjoy a higher standard of living.

39

Other than technical knowledge, describe the other type of investment in human capital which may be especially important in developing nations.

Expenditures that lead to a healthier population. Other things equal, healthier workers are more productive. Making the right investment in the health of the population is one way for a nation to increase productivity and raise living standards.

40

How could height be an indicator of productivity?

As nations develop economically, people eat more, and the population gets taller.

41

Describe the vicious circle caused by the link between health and wealth.

Poor countries are poor in part because their populations are not healthy, and their populations are not healthy in part because they are poor and cannot afford adequate health care and nutrition.

42

Describe the virtuous circle caused by the link between health and wealth.

Policies that lead to more rapid economic growth would naturally improve health outcomes, which in turn would further promote economic growth.

43

What is an important prerequisite for the price system to work?

Political stability and, more importantly, an economy-wide respect for property rights.

44

How do governments enforce property rights?

Trough the criminal justice system, the courts discourage direct theft.
Trough the civil justice system, the courts ensure that buyers and sellers live up to their contracts.

45

What is the main threat to property rights?

Political instability. When revolutions and coups are common, there is doubt about whether property rights will be respected in the future. Even the threat of revolution can act to depress a nation's standard of living.

46

In what way is trade a type of technology?

When a country exports wheat and imports steel, the country benefits in the same way as if it had invented a technology for turning wheat into steel.

47

Describe how geography helps determine the amount of goods a nation trades.

Countries with good natural seaports find trade easier than countries without this resource. The critical importance of access to the sea helps explain why the African continent, which contains many landlocked countries, is so poor.

48

If most technological advance comes from private research by firms and individual inventors, why is there also a public interest in promoting these efforts?

To a large extent, knowledge is a public good: Once one person discovers an idea, the idea enters society's pool of knowledge, and other people can freely use it.

49

How do federal, provincial, and territorial governments encourage advances in knowledge?

By funding research, by offering tax breaks to firms who engage in research and development, and by enforcing patents.

50

Why do governments enforce the patent system?

By allowing inventors to profit from their inventions - even if only temporarily - the patent system enhances the incentive for individuals and firms to engage in research.

51

Briefly describe the economic debate on how population size affects standards of living.

-A large population means more workers to produce goods and services.
-At the same time, however, a large population means more people consume those goods and services.
So while a large population means a larger total output of goods and services, it need not mean a higher standard of living for a typical citizen.

52

How did Thomas Malthus' analysis that "the power of population in infinitely greater than the power in the earth to produce subsistence for man" prove to be inaccurate and short-sighted?

Growth in mankind's ingenuity has offset the effects of a larger population. Pesticides, fertilizers, mechanized farm equipment, new crop varieties and other technological advances that Malthus never imagined have allowed each farmer to feed ever-greater numbers of people. Even with more mouths to feed, fewer farmers are necessary because each farmer is so productive.

53

Where Malthus worried about the effects of population on the use of natural resources, how do some modern theories of economic growth emphasize its effects on capital accumulation?

High population growth reduces GDP per worker because rapid growth in the number of workers forces the capital stock to be spread more thinly. In other words, when population growth is rapid, each worker is equipped with less capital. A smaller quantity of capital per worker leads to lower productivity and lower GDP per worker.

54

Population growth rate in some developed countries is below the rate necessary to maintain population at current levels. Policymakers in these countries are concerned that a shrinking population of working-age people will be unable to maintain economic growth rates. Why is this a concern for governments and citizens alike?

Because the result may be tax revenue that is insufficient to support a growing share of the population that is retired, hoping to collect public pensions, and expecting to be cared for in publicly funded hospitals.

55

How are policies that foster equal treatment of women one way for less-developed economies to reduce the rate of population growth and, perhaps, raise their standard of living?

Bearing a child, like any decision, has an opportunity cost. When the opportunity cost rises, people will choose to have smaller families. In particular, women with the opportunity to receive a good education and desirable employment tend to want fewer children than those with fewer opportunities outside the home.

56

Why have some economists suggested that world population growth has been an engine of technological progress and economic prosperity?

If there are more people, then there are more scientists, inventors, and engineers to contribute to technological advance, which benefits everyone. According to some economists, a large population is a prerequisite for technological advance.

57

What is the financial system?

The group of institutions in the economy that help to match one person's saving with another person's investment.

58

Briefly describe the motivations behind savers' and borrows' actions.

Savers supply their money to the financial system with the expectation that they will get it back with interest at a later date.
Borrowers demand money from the financial system with the knowledge that they will be required to pay it back with interest at a later date.

59

How do government regulators oversee financial institutions?

By setting the rules that guide the operation of a financial system that otherwise operates almost wholly within the private sector.

60

What is OFSI?

The Office of the Superintendent of Financial Institutions is an independent agency of the federal government that reports to the Department of Finance Canada.

61

What does OFSI do?

The OFSI is the primary regulator of federally regulated banks, insurance companies, and pension plans in Canada.

62

Which financial institutions are largely regulated by provincial governments?

Credit unions, caisses populaires, securities dealers, and mutual funds.

63

Which other other institution, other than OFSI and provincial governments, are important financial regulators?

Canada's central bank: The Bank of Canada.

64

What are the two groups of financial institutions?

Financial markets and financial intermediaries.

65

What are financial markets?

Financial institutions through which savers can directly provide funds to borrowers.

66

What are the two most important financial markets?

The bond market and the stock market.

67

What is a bond?

A certificate of indebtedness that specifies the obligations of the borrower to the holder of the bond. An IOU.

68

What important information does a bond contain?

A bond identifies the time at which the loan will be repaid, called the date of maturity, and the rate of interest that will be paid periodically until the loan matures.

69

What options are available to a bond holder?

The buyer can hold the bond until maturity or can sell the bond at an earlier date to someone else.

70

Although there are many different bonds, what two characteristics are most important?

The bond's term and its credit risk.

71

What is a bond's term?

The length of time until the bond matures.

72

What is a perpetuity?

A bond that never matures. This bond pays interest forever, but the principal is never repaid.

73

What does the interest rate on a bond depend on in part?

Its term.

74

Why are long-term bonds are riskier (therefore requiring higher interest rates) than short-term bonds?

Because the holders of long-term bonds have to wait longer for repayment of principal. If a holder of a long-term bond needs his money earlier than the distant date of maturity, he has no choice but to sell the bond to someone else, perhaps at a reduced price. To compensate for this risk, long-term bonds usually pay higher interest rates than short-term bonds.

75

What is credit risk?

The probability that the borrower will fail to pay some of the interest or principal. Such a failure to pay is called a default.

76

How can a borrower default on their loans?

By declaring bankruptcy.

77

Other than long-term bonds, when do bond buyers demand higher interest rates?

When they perceive that the probability of default is high, they demand a higher interest rate to compensate them for this credit risk,

78

What affects credit risk?

The level of debt carried, and the stability of the issuer's revenues.

79

Why is the Canadian government considered a relatively safe credit risk?

Because although it carries a lot of debt, the amount of debt it carries is small relative to its capacity to finance the debt.

80

Why are provincial and territorial bonds considered to be riskier than federal bonds, thereby requiring higher interest rates?

Because provincial and territorial economies tend to be less diverse than the national economy, their revenues are more volatile.

81

Which bonds tend to have the highest interest rates?

Corporate bonds, because their revenue is volatile.

82

What is a stock?

A claim to partial ownership in a firm, and, therefore, a claim to the profits that the firm makes.

83

What is debt financing?

The sale of bonds to raise money.

84

What is equity financing?

The sale of stocks to raise money.

85

Briefly describe the different perspectives of an Intel bondholder and an Intel stockholder.

If Intel is very profitable, the shareholders enjoy the benefits of these profits, whereas bondholders get only the interest on their bonds
If Intel runs into financial difficulty, the bondholders are paid what they are due before shareholders receive anything at all. Compared to bonds, stocks offer the holder both higher risk and potentially higher return.

86

What happens to the stock after a corporation issues them to the public?

The shares trade among shareholders on organized stock exchanges. In these transactions, the corporation itself receives no money when its stock changes hands.

87

What determines the price at which shares trade on stock exchanges?

Supply and demand. The demand for a stock reflects people's perception of the corporation's future profitability.

88

What is a stock index?

A computed average of a group of stock prices.

89

What do the various stock indexes do?

They monitor the overall level of stock prices.

90

What are financial intermediaries?

Financial institutions through which savers can indirectly provide funds to borrowers.

91

What are the two most important financial intermediaries?

Banks and mutual funds.

92

Why would a small enterprise prefer financial intermediaries to financial markets?

Because most buyers of stocks and bonds prefer to buy those issued by larger, more familiar companies.

93

What is the primary role of banks?

To take in deposits from people who want to save and use these deposits to make loans to people who want to borrow.

94

How do banks make money?

Banks pay depositors interest on their deposits and charge borrowers slightly higher interest on their loans. The difference between these rates of interest covers the bank's costs and returns some profit to the owners of the bank.

95

What is the secondary role of banks?

They facilitate purchases of goods and services by allowing people to write cheques against their deposits. In other words, banks help create a special asset that people can use as a medium of exchange (which distinguishes banks from other financial institutions).

96

What is a medium of exchange?

An item that people can easily use to engage in transactions.

97

What is a mutual fund?

An institution that sells shares to the public and uses the proceeds to buy a portfolio of stocks and bonds. The shareholder of the mutual fund accepts all the risk and return associated with the portfolio.

98

What is the primary advantage of mutual funds?

They allow people with small amounts of money to diversify. With just a few hundred dollars, a person can buy shares in a mutual fund and, indirectly, become the part owner or creditor of hundreds of major companies.

99

How do companies operating mutual funds make money?

By charging shareholders a fee, usually between 0.5-3.0 percent of assets each year.

100

What is the secondary advantage of mutual funds?

Mutual funds give ordinary people access to the skills of professional money managers. The managers of most mutual funds pay close attention tot he developments and prospects of the companies in which they buy stock.

101

What is the national accounts identity? (recap)

Y = C + I + G + NX

102

What is the national accounts identity in a closed economy?

Y = C + I + G

103

What is the national saving identity in a closed economy?

S = I,
therefor
S = Y - C - G
or
S = (Y - T - C) + (T - G)

104

Separate the national saving identity in a closed economy into both private and public savings.

Private saving = Y - T - C
Public saving = T - G

105

What is private saving?

The income that households have left after paying taxes and consumption.

106

What is public saving?

The tax revenue that the government has left after paying for its spending.

107

What is a budget surplus?

An excess of ta revenue over government spending.

108

What is a budget deficit?

A shortfall of tax revenue from government spending.

109

How does the term "investment" differ in economic language from every day use?

Investment here refers to the purchase of new capital, such as equipment or buildings.

110

Give some insight into S = I.

Although the accounting identity S = I shows that saving and investment are equal for the economy as a whole, this does not have to be true for every individual household or firm.

111

What is the market for loanable funds?

The market in which those who want to save supply funds and those who borrow to invest demand funds.

112

What are loanable funds?

All income that people have chosen to save and lend out, rather than use for their own consumption.

113

Describe the interest rate in this simplified version of the market for loanable funds.

In the market for loanable funds, there is one interest rate, which is both the return to saving and the cost of borrowing. Its the price of a loan.

114

What is the source of the supply of loanable funds?

Savings

115

What is the source of the demand for loanable funds?

Investment

116

What happens if the interest rate in the market for loanable funds is below the equilibrium level?

Qs < Qd. The resulting shortage of loanable funds would encourage lenders to raise the interest rate they charge. A higher interest rate would encourage saving and discourage borrowing for investment.

117

What happens if the interest rate in the market for loanable funds is above the equilibrium level?

Qs > Qd. As lenders compete for scarce borrowers, interest rates would be driven down. A lower interest rate would discourage saving and encourage borrowing for investment.

118

What does the supply and demand for loanable funds depend on?

Because inflation erodes the value of money over time, the real interest rate more accurately reflects the real return to saving and cost of borrowing.

119

How do some of Canada's laws discourage saving?

The tax on interest income substantially reduces the future payoff from current saving and reduces the incentive for people to save.

120

Why do economists approve of the GST as being conducive to saving?

The GST is a consumption tax. Under a consumption tax, income that is saved is not taxed, so the tax clearly encourages greater saving.

121

How do RRSP and TFSA encourage saving?

By buying an RRSPs or TFSAs, people reduce the amount of their income that is subject to tax.

122

How would RRSP or TFSA affect the market for loanable funds?

Because the tax change would alter the incentive for households to save at any given interest rate, it would affect saving (Qs) at each interest rate. Thus the supply curve would shift to the right. Demand would remain the same, resulting in a lower interest rate overall.

123

In short, what is the result of a reform aimed at encouraging saving?

If a reform of the tax laws encouraged greater saving, the result would be lower interest rates and greater investment.

124

How does Parliament induce more investment?

By instituting an investment tax credit.

125

How would an investment tax credit affect the market for loanable funds?

Because the tax credit would reward firms that borrow and invest in new capital, it would alter investment (Qd) at any given interest rate, shifting the demand curve to the right. Supply would remain the same, resulting in a higher interest rate overall.

126

In short, what is the result of a reform aimed at encouraging investment?

If a reform of the tax laws encouraged greater investment, the result would be higher interest rates and greater saving.

127

What is government debt?

The sum of all past budget deficits and surpluses.

128

How would the market for loanable funds be affected by a budget deficit?

National saving is composed of private saving and public saving. When the government runs a budget deficit, public saving is negative, reducing national saving, shifting the supply of loanable funds to the left. Demand for loanable funds remains unchanged. Interest rates rise Qd=Qs falls.

129

What is crowding out?

A decrease in investment due to government borrowing. When government reduces national saving by running a budget deficit, the interest rate rises, and investment falls.

130

Describe the vicious circle of government budget deficits.

The cycle results when deficits reduce the supply of loanable funds, increase interest rates, discourage investment, and result in slower economic growth; slower growth leads to lower tax revenue and higher spending on income support programs, and the result can be even higher budget deficits.

131

Describe the virtuous circle of government budget surpluses.

The cycle results when surpluses increase the supply of loanable funds, decrease interest rates, stimulate investment, and result in faster economic growth; faster growth leads to higher tax revenue and lower spending on income support programs, and the result can be even higher budget surpluses.

132

What is a good indicator that an economy is living within its means?

A declining debt-to-GDP ratio because GDP is a rough measure of the government's ability to raise tax revenue.

133

What is government net debt?

The difference between the value of government financial liabilities and financial assets.

134

What are two good ways to gauge the size of Canadian government debt?

By comparing it to the level of debt carried by governments in other countries.
By comparing default risk across countries.

135

How do financial markets, unlike other markets, serve the important role of linking the present and the future?

Those who supply loanable funds do so because they want to convert some of their current income into future purchasing power.
Those who demand loanable funds do so because they want to invest today in order to have additional capital in the future to produce goods and services.

136

What does an economy's natural rate of unemployment refer to?

The rate of unemployment to which the economy tends to return in the long run.

137

What does cyclical unemployment refer to?

The deviation of unemployment from its natural rate.

138

What are the four explanations for the economy's natural unemployment rate?

Job search
Minimum-wage laws
Unions
Efficiency

139

How does StatsCan define the labour force?

The total number of workers including both the employed and the unemployed.

140

How does StatsCan define the unemployment rate?

The percentage of the labour force that is unemployed.

141

How is the unemployment rate calculated?

Unemployment rate = (Number of unemployed) / (Labour force) X 100

142

What is the labour force participation rate?

The percentage of the adult population that is in the labour force.

143

How is the labour-force participation rate calculated?

Labour-force participation rate = (Labour force) / (Adult population) X 100

144

What are three interesting finding about labour participation rates and unemployment?

-Women have lower rates of labour participation than men in the same age group.
-Young people aged 15-24 have much higher rates of unemployment than older people.
-Similarly aged men and women tend to have similar rates of unemployment.

145

Why has female labour participation increased in "recent" years?

-New technologies: washing machine, clothes dryer, refrigerator, freezer, and dishwasher.
-Improved birth control: leading to fewer babies
-Changing political and social attitudes.

146

Why has male labour participation decreased in "recent" years?

-Education: young men stay in school longer.
-Retirement: older men now retire earlier and live longer.
-Parenting: with more women employed, more fathers now stay at home to raise their kids.

147

Why can statistics on unemployment be difficult to interpret?

Because people move into and out of the labour force so often and for such a variety of reasons.

148

What are discouraged workers?

Individuals who would like to work but have given up looking for a job.

149

What's an important statistical feature of discouraged workers and even somewhat employed workers?

They don't show up in unemployment statistics (really unemployed).
Some part-time workers may wish to be full-time (really underemployed).

150

What are economists estimates for the natural unemployment rate based on?

Those variables they believe are the underlying determinants of the natural rate of unemployment.

151

What is frictional unemployment?

Unemployment that results because it takes time for workers to search for the jobs that best suit their tastes and skills.

152

What is structural unemployment?

Unemployment that results because the number of jobs available in some labour markets is insufficient to provide a job for everyone who wants one.

153

What is often thought to explain relatively short spells of unemployment?

Frictional unemployment.

154

What is often thought to explain relatively long spells of unemployment?

Structural unemployment.

155

What is one possible cause for structural unemployment?

When wages are set above the level that brings supply and demand into equilibrium.

156

What is job search?

The process by which workers find appropriate jobs given their tastes and skills.

157

What are some possible cause of frictional unemployment?

-Changes int he demand for labour among different firms.
-Because different regions produce different goods, employment can rise in one region while it falls in another.

158

What are sectoral shifts?

Changes in the composition of demand among industries or regions.

159

How do government programs try to facilitate job search?

-Through government-run employment agencies, which give out information about job vacancies.
-Through public training programs, which aim to ease the transition of workers from declining to growing industries and to help disadvantaged groups escape poverty.

160

What is Employment Insurance?

A government program that partially protects workers' incomes when they become unemployed.

161

What two considerations have determined when and for how long someone can collect EI benefits?

-The number of hours worked int he past year (more hours = longer benefit period).
-The unemployment rate in the area of residence (higher local unemployment = longer benefit period and lower minimum hours worked to be eligible).

162

How can EI lead to negative incentives?

Because EI benefits stop when a worker takes a new job, we might expect that the unemployed would devote less effort to job search and be more likely to turn down unattractive job offers.

163

Why is it that minimum-wage laws aren't a predominant reason for unemployment?

Because most workers earn wages well above the legal minimum.

164

When and for whom are minimum-wage laws binding, and likely to lead to unemployment?

The least-skilled and least-experienced members of the labour force.
If the wage is kept above the equilibrium level for any reason.

165

What is a union?

A worker association that bargains with employers over wages and working conditions.

166

Which are the highest and lowest sectors in terms of unionization?

Unionization is at its highest in industries in the public sector and lowest in the food and accommodation industry.

167

How are unions like cartels?

Like any cartel, a union is a group of sellers acting together in the hope of exerting their joint market power?

168

What is collective bargaining?

The process by which unions and firms agree on the terms of employment.

169

How do unions bargain with firms?

When a union bargains with a firm, it asks for higher wages, better benefits, and better working conditions than the firm would offer in the absence of a union. If the union and the firm don't reach an agreement, the union can organize a strike.

170

What is a strike and why do they work?

The organized withdrawal of labour from a firm by a union. Because a strike reduces production, sales, and profit, a firm facing a strike threat is likely to agree to pay higher wages than it otherwise would.

171

How do union-induced wage hikes affect the labor market?

The workers who remain employed at the higher wages are better off, but those who were previously employed and are now unemployed at the higher wage are worse off.

172

Unions are often thought to cause conflict between groups of workers - between insiders who benefit from high union wages and the outsiders who don't get the union jobs. How do workers respond when they become outsiders?

Some outsiders remain unemployed and wait for the chance to become insiders and earn the high union wage. Others take jobs in firms that are not unionized.

173

How does the sectoral shift due to unions affect the labor market?

When unions raise wages in one part of the economy, the supply of labour increases in other parts of the economy. This increase in labour supply, in turn, reduces wages in industries hat are not unionized.

174

If cartels are illegal, why aren't unions?

The policymakers who wrote Canada's competition laws believed that workers needed greater market power as they bargained with employers.

175

How do unions get established in the private sector?

Unions must approach workers in nonunionized companies and try to convince a majority of those workers of the benefits of union membership. While these membership drives are often unsuccessful, the very threat of such attempts at unionization likely have the effect of causing firms to increase wages and improve working conditions as a way of discouraging workers from joining a union.

176

Why do critics of unions claim that unions result in inefficient and inequitable allocation of labour?

It is inefficient because high union wages reduce unemployment in unionized firms below the efficient, competitive level.
It is inequitable because some workers benefit at the expense of other workers.

177

Why do some economists support unions?

Advocates of unions contend that unions are a necessary antidote to the market power of the firms that hire workers.
They also claim that unions are important for helping firms respond efficiently to workers' concerns.

178

What are efficiency wages?

Above-equilibrium wages paid by firms in order to increase worker productivity.

179

What is the theory of efficiency wages?

According to this theory, firms operate more efficiently if wages are above equilibrium level. Therefore, it may be profitable for firms to keep wages high even in the presence of a surplus of labour.

180

How does the simplest type of efficiency-wage theory emphasize the link between wages and worker health?

Better paid workers eat a more nutritious diet, and workers who eat a better diet are healthier and more productive. A firm may find it more profitable to pay high wages and have healthy, productive workers than to pay lower wages and have less healthy, less productive workers. (more relevant in poor countries)

181

How does the second type of efficiency-wage theory emphasize the link between wages and worker turnover?

Workers quit jobs for many reasons. The frequency with which they quit depends on the entire set of incentives they face. The more a firm pays its workers, the less often its workers will choose to leave.

182

Why do firm care about turnover?

It's costly for firms to hire and train new workers. Moreover, even after they are trained, newly hired workers aren't as productive as experienced workers. Firms with higher turnover, therefor, tend to have higher production costs.

183

How does the third type of efficiency-wage theory emphasize the link between wages and worker effort?

High wages make workers more eager to keep their jobs, giving workers an incentive to put forward their best efforts. If the wage was at the level that balanced supply and demand, workers would have less reason to work hard because if they were fired, they could quickly find new jobs at the same wage.

184

How does the fourth type of efficiency-wage theory emphasize the link between wages and worker quality?

All firms want workers who are talented, and they try to pick the best applicants to fill job openings. When a firm pays a high wage, it attracts a better pool of workers to apply for its jobs and thereby increase the quality of its work force.

185

What is an important final conclusion about unemployment and its natural rate?

Although the economy will always have some unemployment, its natural rate does change over time.