Question

1.EXplain how inflation affects savings?
2. Why might a favovable change to the economy such as technological change or a decrease in the price of imported oil be associated with an increase in frictional unemployment?

required short answer otherwise not acceptable

Answer 1

Answer 1.

When inflation and inflation expectations are high, the consumers will prefer to spend today than save money to spend at a later date as inflation erodes the purchasing power of money. At the same time, high inflation expectation implies higher interest rate in the future and therefore consumers spend when interest rates are lower than higher. Therefore, high inflation or higher expectation of reduces the savings rate.

Similarly, when inflation is low or declining, there can be potential increase in purchasing power or decline in interest rates. Therefore, consumers would prefer to postpone spending for a future date (at higher purchasing power of the currency) and the savings rate in the economy increases.

Answer 2.

Frictional unemployment is an unemployment that exists as a result of people moving from one job to another. Therefore, when there is a technological advancement, there is an increase in productivity in the economy and new jobs are created. This encourages individuals to leave one job before finding another job as they have confidence on economic growth and ample availability of jobs.

Similarly, when oil price declines, there is an associated decline in cost of production and companies ramp-up production to garner higher margins. This translates into new job creation and higher frictional unemployment as people have the confidence to leave one job before getting another with ample openings in the job market.