1) Weigh the two arguments regarding unemployment in Europe. Is unemployment high because of high natural rates of unemployment or because of deficient aggregate demand?

I will attempt to address this question despite my lacking knowledge in the economic condition of Europe. Now, Europe—unlike Asian countries—has excellent welfare conditions. By that I mean that when a person in Europe is fired, he has the opportunity to try and reintegrate himself back into the workforce by reeducating himself (with the financial help of the government) in a new field of work; however, even if he chooses not to actively seek reeducation, he will still receive monthly off-job-payments from the government. This is much unlike Asian countries. In the case of Korea, when a person loses his job, the government only provides him with two-month-worth of meager financial assistance. Thus, Europeans do not face as much “financial danger” as the Asians do, and thus have fewer incentives to quickly find a job. That is perhaps why European countries have high natural rates of unemployment.

Additionally, just observe the working conditions of many European countries (now, by this, I am referring to mainly Western European countries, not Eastern countries). Workers in these nations are required to work for a less amount of time than Americans or Chinese by law. On top of that, Europeans have 30~40days of paid vacation, compared to a maximum of two weeks of paid vacation in the USA (I think it’s two weeks if I remember correctly…). Because European workers work less hours than Americans, it is inevitable that European workers produce fewer total output than Americans do. As a result, in order to produce as much total output as the American firms do, European firms must hire more workers—which would increase their production costs—thereby discouraging the firms from employing workers. These lead to a higher natural rate of unemployment.

Now, although I am not learned in the economic condition of Europe, I—after having contrasted European working conditions with that of America or those of Eastern Asian nations—believe that high natural rates of unemployment play the chief role in keeping unemployment rates in Europe at low levels.

2) Explain the experience of the US between 1996 and 2000 when the economy was at greater than full employment with high GDP growth while maintaining low rates of inflation. What allowed this so-called “New Economy” to occur, and what brought it to an end in 2001?

Now, theoretically, if a nation’s economy is at higher than full employment, higher inflation should be triggered. If the aggregate demand curve shifts to the right, it will intersect the aggregate supply curve at a new equilibrium. This new equilibrium will be of greater quantity of output and of higher price than the original equilibrium. Because the price levels increase as a result of an increase in demand, the resulting inflation is a demand-pull inflation. However, in the case of the USA, demand-pull inflation did not ignite at all: it remained at very mild levels. How was this possible?

The fact is that during the period between 1996 and 2000, aggregate demand curve was not the only one to shift to the right (increase). The aggregate supply curve has also shifted to the right (increased) as a result of a surge in productivity, fueled by the burst of new technology, including, but not limited to “computers, the Internet, inventory management systems, [and] electronic commerce” (remember, productivity is a determinant of AS) (McConnell Brue). As the AS curve shifted to the right (increased), it intersected with the AD curve at another new equilibrium point, one in which involves greater quantity of output but lower levels of price than the second equilibrium point. As a result, although quantity of output (both supplied and demanded) increased dramatically, price level only increased slightly, creating only a mild demand-pull-inflation.

However, in 2001, the salubrious economy experienced a turn when the “New Economy” came to an end. Because of substantial decrease in investment spending, aggregate demand curve shifted to the left (decreased), decreasing quantity of output (and hence the GDP). In addition, in March 2001, the USA experienced a recession, which was exacerbated by the 9/11 tragedy (which also dampened private spending, further shifting the aggregate demand curve to the left). This increased unemployment rates, which further shifted the aggregate demand curve to the left (this is because unemployed people, facing a halt of income, will be compelled to borrow money, augmenting household indebtedness; because that is a determinant of consumer spending, such behavior will decreasing consumer spending; because consumer spending is a determinant of aggregate demand, its decrease will decrease aggregate demand). These economic troubles brought along the end of the “New Economy.”