OxfordAQA International AS and A-level Economics: Unemployment and inflation (9640) – Revision Notes

These notes condense sections 3.2.3.2 (employment and unemployment) and 3.2.3.3 (inflation and deflation) of the OxfordAQA International AS and A-level Economics (9640) specification, version 1.2. Section 3.2 is International AS content. For full explanations read the study guide, then test yourself with the practice set. Course page: OxfordAQA A-level Economics. Tick off topics on the checklist and find gaps with the free diagnostics. Index-number practice: measurement of macroeconomic performance. All figures are invented.

Definitions

Term	Meaning
ILO unemployed	No job, available to start soon, actively searched recently
Economically inactive	Of working age, not in work and not counted as unemployed
Labour force	Employed + unemployed
Underemployment	In work, but with fewer hours or lower skill use than wanted
Inflation	Sustained rise in the general price level
Deflation	Price level falling
Disinflation	Inflation rate falling; prices still rising
Deflationary policy	Policy that cuts aggregate demand; may not cause deflation

Formulas

Measure	Formula
Unemployment rate	(unemployed ÷ labour force) × 100
Participation rate	(labour force ÷ population of working age) × 100
Underemployment rate	underemployed workers ÷ employed × 100
Inflation rate	(new index − old index) ÷ old index × 100
Weighted index	sum of (weight × item index)
Real change	(1 + nominal) ÷ (1 + inflation) − 1
Output gap	(actual − potential) ÷ potential × 100
Unit labour cost change	(1 + wage rise) ÷ (1 + productivity rise) − 1

Method in steps: ILO rate

1. Find the labour force first: employed plus unemployed.
2. Divide the number unemployed by that total.
3. Convert to a percentage and give the unit.
4. Ask whether jobs changed or people left the labour force.

Reminder (Country Gamma). Working-age population 4,900,000. Employed 3,360,000. Unemployed 140,000. Labour force = 3,500,000. Rate = 140,000 ÷ 3,500,000 × 100 = 4.0%. Participation = 3,500,000 ÷ 4,900,000 × 100 = 71.4%; inactive = 1,400,000. If 20,000 unemployed stop searching, unemployed = 120,000 and the rate = 120,000 ÷ 3,480,000 × 100 = 3.4%, with no extra jobs. Underemployment: 252,000 of 3,360,000 employed want more hours, so the rate is 7.5%.

Types of unemployment and matching policy

Type	Cause	Policy	Weakness of policy
Cyclical	Negative output gap, weak AD	Fiscal or monetary stimulus	Time lags, inflation near capacity
Structural	Skills or location mismatch	Retraining, relocation help	Slow and costly; older workers adapt less
Frictional	Job search takes time	Job information, quicker matching	Some search is healthy
Seasonal	Yearly pattern of demand	Diversify local industry	Hard to remove entirely

Links to the model: a negative output gap → cyclical unemployment. Supply-side causes lower normal capacity, so the vertical LRAS curve sits further left. Example of a positive gap: potential 800, actual 824 → (824 − 800) ÷ 800 × 100 = +3.0%.

Employment: demand side and supply side

• Demand side: higher consumption, investment, government spending or net exports → higher AD → more output → more hiring.
• Supply side: skills, mobility, productivity, wages relative to productivity, regulation, the incentive to work.
• Chain: lower real wage relative to productivity → hiring is cheaper → employment may rise, if demand for output exists.

Global influences (list, then evaluate)

• Recession abroad → export orders fall → AD shifts left → cyclical unemployment.
• Cheaper foreign production → closure of home industries → structural unemployment.
• Offshoring out; foreign investment in.
• Migration alters labour supply.
• Exchange rate and world commodity prices change competitiveness and costs.
• Evaluation: trade openness, labour flexibility, speed of switching industries, time period.

Inflation: causes in one table

Cause	AD/AS effect	Real GDP	Unemployment
Demand-pull (spending, money supply, weaker currency boosting exports)	AD right	Up	Usually down
Cost-push (wages, commodities, energy, indirect taxes)	SRAS left	Down	Usually up
Imported inflation (weaker currency, dearer world commodities)	SRAS left, plus AD right	Mixed	Mixed

Method for a cost-push calculation: multiply each input’s percentage rise by its share of total cost, then add. Example: fuel rises 30% and is 10% of costs, so cost rises 0.10 × 30 = 3.0%. Wage growth of 5% with productivity growth of 2% gives unit labour costs up 1.05 ÷ 1.02 − 1 = 2.9%.

Money supply. Excessive growth in the money supply increases AD and causes inflation. Link: faster money growth → more spending → AD shifts right → price level rises, more strongly near full capacity.

Exchange rate and inflation

A fall in the currency raises import prices in domestic currency and lifts export demand. A rise lowers import prices.

Reminder. An import costs 80 foreign units. At 1 domestic unit = 1.25 foreign units, the price is 80 ÷ 1.25 = 64. If the currency appreciates to 1.60, the price is 80 ÷ 1.60 = 50, a fall of (50 − 64) ÷ 64 = −21.9%. At 1.00 (depreciation) the price is 80, up 25% on 64.

Index numbers, real values, disinflation and deflation

• CPI 131.5 → 135.2: (135.2 − 131.5) ÷ 131.5 × 100 = 2.8%.
• Weights 25%, 35%, 40% with item indices 112, 106, 103: 28.0 + 37.1 + 41.2 = 106.3.
• Nominal pay +2.2%, inflation 3.5%: 1.022 ÷ 1.035 − 1 = −1.3% (real pay falls).
• Disinflation: inflation 4.5%, 3.0%, 1.5% gives price levels 104.5, 107.6, 109.2. Prices rise throughout.
• Deflation: index 98.6 → 97.3 is −1.3%. The price level itself has fallen.

Chains of reasoning to learn

• Cyclical unemployment: global recession → fewer export orders → AD shifts left → real GDP falls below potential (negative output gap) → firms cut hours and jobs → unemployment rises. Policy: raise AD, but check the lag and the debt cost.
• Structural unemployment: a new technology makes a skill obsolete → workers cannot fill the new vacancies → unemployment stays high even when AD is strong → the normal capacity level of output falls and LRAS sits to the left. Policy: retraining and mobility support, which work slowly.
• Cost-push inflation: world commodity price rises → unit costs rise → SRAS shifts left → price level up, real GDP down. Policy dilemma: cutting AD to fight prices deepens the fall in output.
• Demand-pull inflation: weaker currency and cheap credit → AD shifts right → output rises towards capacity → spare capacity runs out → the price level rises faster.
• Exchange rate: depreciation → dearer imports in domestic currency → higher costs and prices, but cheaper exports → AD rises.

Evaluation prompts

Use at least one of these in every extended answer.

• Cause: is the problem cyclical or structural? The right policy differs.
• Size: how large is the shift in AD or SRAS, and how much spare capacity exists?
• Time: short run versus long run; how long are the lags?
• Openness: how much of the economy trades, and how much do firms import?
• Other things: what else is changing at the same time?

Must-know distinctions

• Disinflation is a lower rate; deflation is a lower price level.
• Unemployed means searching; inactive means not searching.
• Unemployment means no work; underemployment means too little work.
• Demand-pull moves AD; cost-push moves SRAS.
• Deflationary policy is a demand-reducing action; deflation is a result.

Quick self-test

1. Define disinflation.
2. Employed 3,360,000, unemployed 140,000: find the unemployment rate.
3. 20,000 unemployed people stop searching. Find the new rate.
4. A steel plant closes because of cheaper foreign steel. Name the type of unemployment.
5. Nominal pay rises 2.2% and prices rise 3.5%. Find the change in real pay.
6. CPI rises from 131.5 to 135.2. Find inflation.
7. Fuel rises 30% and forms 10% of a firm’s costs. Find the rise in costs.
8. Wages +5%, productivity +2%. Find the change in unit labour cost.
9. Currency appreciates, cutting an import’s price from 64 to 50. Find the percentage change.
10. A tax rise cuts inflation from 4% to 2%. Is this deflation? Name it.

Answers

1. A fall in the rate of inflation; the price level still rises.
2. 140,000 ÷ 3,500,000 × 100 = 4.0%.
3. 120,000 ÷ 3,480,000 × 100 = 3.4%.
4. Structural (a skills or location mismatch caused by competition).
5. 1.022 ÷ 1.035 − 1 = −1.3%.
6. 3.7 ÷ 131.5 × 100 = 2.8%.
7. 0.10 × 30 = 3.0%.
8. 1.05 ÷ 1.02 − 1 = 2.9%.
9. (50 − 64) ÷ 64 × 100 = −21.9%.
10. No. Prices still rise, so it is disinflation; the tax rise is a deflationary policy.

Where marks are usually lost

• Using the working-age population instead of the labour force in the rate.
• Counting people who stop searching as employed.
• Describing disinflation as falling prices.
• Calling every job loss cyclical without mentioning weak demand.
• Drawing AD shifts for a cost-push case, or the reverse.
• Subtracting inflation from nominal growth instead of dividing.
• Omitting the evaluation of a policy: lags, costs, inflation risk, the cause of the unemployment.
• Giving a global influence without linking it to AD, SRAS or LRAS.

Official syllabus

OxfordAQA International AS and A-level Economics (9640), specification version 1.2, first teaching September 2020, published by Oxford International AQA Examinations. Sections 3.2.3.2 and 3.2.3.3.