Wednesday, April 6, 2011

Why Government needs to figure out their budget

The slow down in GDP will result in fewer jobs? How many? Think about Okun's law.

Here's the hard way: Potential Output at the beginning of 2011 was $14.178 trillion and by 2012 potential will be $14.455 trillion. Real GDP at the end of 2010 was $13.380 trillion. The output gap to begin the year was (13.380 - 14.178)/14.178 = -5.64%. This results in an increase in cyclical unemployment of approximately 2.8% which amounts to approximately 4.5 million people.  If the economy grew at 3.3% real GDP by the end of 2011 will be 13.380*1.033 = 13.821, the output gap would be (13.821 - 14.455)/14.455 = 4.4%, cyclical unemployment would fall to 2.2%.

But if output only grows at 2.7% than real GDP by the end of 2011 will be 13.380*1.027 = 13.74. The output gap is (13.74 - 14.455)/14.455 = 4.95% and cyclical unemployment would be 2.5%.

Here's the easy way: output was revised lower by 0.6%. Recall for every two percent decline in output will increase cyclical unemployment by 1%. So a 0.6% decline in GDP would increase cyclical unemployment by 0.3%.

Is 0.3% a lot? The unemployment rate is 8.8% or 14 million people unemployment. Despite being a small number, 0.3% still corresponds with nearly 500,000 workers. I think the government needs to figure out there budget pretty quickly, the uncertainty is causing a large drag on the economy.

1 comment:

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