Okun's Law

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Paul Geary 10109099 Project A: Okun’s Law United States 4th March 2011 Above we see the Business Cycle for the United States displaying both the Unemployment rates and the Real Growth GDP in percentage change over the last 30 years. There are clear indicators that the US economy has had clear stages of economic over-cooling and over-heating during the last 30 years. Between 1981-1985 the US economy expanded greatly except for a 4% drop in 1983. This rapid expansion was clearly unsustainable, as we see with the gradual contraction in the size of the economy from 1986 to1992 where GDP was barely 1% and unemployment reached 7%. We see this again from 2004 all the way to 2010 with unemployment increasing to 10%. We can see that the economy hits a recession after roughly 10 years of gradual expansion. Okun’s Law states that for every 1% rises in Unemployment, GDP decreases by roughly 3%. The above Scatter Plot chart shows data from 1981 to 2010 and we can see that for every 1% rise in Unemployment over this period, GDP dropped by 0.4%. This shows a negative slop and that the relationship is relatively weak due to the fact the GDP has decreased by less than 1%. Arthur Okun Arthur Okun is mainly known for his theory, Oun’s Law. Okun’s Law describes a relationship between percentage change in unemployment and percentage change in Gross National Product. Okun’s Law depicts a linear relationship between the two percentage changes. In theory, for every 1% fall in unemployment, GNP rises by 3%. Arthur Okun developed this theory based on data he collected World War Two and 1960. However Okun stated that his theory was only valid if unemployment was between 3-7.5%. Arthur Okun was on and later became a senior economist of President John F. Kennedy’s Council of Economic Advisers (CEA) in 1960. It was Okun’s Law that persuaded Kennedy to implement major tax

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