23 Unemployment For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Categories Of Unemployment The problem of unemployment is usually divided into two categories. The long-run problem. The natural rate of unemployment The short-run problem. The cyclical rate of unemployment The focus of this chapter is the long-term unemployment. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Identifying Unemployment Unemployment needs to be: Carefully defined. Measured. Explored in terms of how long people are out of work. Divided into frictional and structure types. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

What is Unemployment? Defining unemployment. Someone who does not have a job and is willing and available for work at the going rate. Unemployment rate is expressed as a percentage of the labour force. Labour force is the total number of people in work plus those who are unemployed. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

How Is Unemployment Measured? Unemployment may be measured in two ways. The claimant count. A monthly survey of households – the Labour Force Survey in the UK. Economically inactive people People who are not in employment or unemployed due to reasons such as being in full-time education, being full-time careers and raising families. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

How Is Unemployment Measured? Each adult is placed into one of three categories: Employed Unemployed Not in the labour force Labour Force The labour force is the total number of workers, including both the employed and the unemployed. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

How Is Unemployment Measured? The unemployment rate is calculated as the percentage of the labour force that is unemployed. Number unemployed Unemployment rate = * 100% Labour force For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

How Is Unemployment Measured? The labour force participation rate is the percentage of the adult population that is in the labour force. Labour force particip ation rate Labour force = * 100% Adult popu lation For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Causes Of Unemployment In an ideal labour market. Wages would adjust so that the quantity of labour supplied and the quantity of labour demanded would be equal. At equilibrium, therefore, there is no unemployment. Changes in the supply of and demand for labour would create surpluses and shortages in the labour market and the adjustment of the wage rate would ensure that all workers are always fully employed. Then why Are There Always People Unemployed? Labour markets do not clear instantly. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Frictional Unemployment Frictional unemployment refers to the unemployment that results from the time that it takes to match workers with jobs. It takes time for workers to search for the jobs that are best suit their tastes and skills. Search unemployment is inevitable because the economy is always changing. Job search means there must always be some unemployment. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Frictional Unemployment Voluntary unemployment is where people choose to remain unemployed rather than take jobs which are available. Involuntary unemployment is where people want work at going market wage rates but cannot find employment. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Structural Unemployment Structural unemployment occurs because the number of jobs available in some labour markets is insufficient to provide a job for everyone who wants one. Three possible reasons for an above equilibrium wage are minimum wage laws, unions, and efficiency wages. Workers who lose their jobs in one industry may find that jobs that are available: Require skills and experience they do not possess = occupational immobility. Or are not in the immediate region where they live = geographic immobility. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Structural Unemployment Technological Change The losers are those whose knowledge, skills and experience are now redundant. As a result they have to seek new employment. Structural change in the Economy Over time structural changes affect the make-up of economies. Structural change can be caused by competition from abroad or by changes in technology and changes in societal norms and trends. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Labour Market Imperfection Unemployment can be caused by wages being above the market equilibrium. Imperfections in the labour market prevent the wage rate from adjusting to equate the demand and supply of labour. When the wage is above the equilibrium level. The quantity of labour supplied exceeds the quantity of labour demanded. Workers are unemployed because they are waiting for jobs to open up. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Minimum Wage Laws When the minimum wage is set above the level that balances supply and demand, it creates unemployment. Minimum wages are binding most often for the least skilled and least experienced members of the labour force, such as teenagers. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Unions And Collective Bargaining A union is a worker association that bargains with employers over wages and working conditions. In the early 1980s over half of the UK labour force was unionized but this figure fell rapidly over a few years to a union density of 25.4% in 2013. A union is a type of cartel attempting to exert its market power. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Economics of Unions The process by which unions and firms agree on the terms of employment is called collective bargaining. Economists have found that union workers typically earn significantly more than similar workers who do not belong to unions. A strike may be organized if the union and the firm cannot reach an agreement. A strike refers to when the union organizes a withdrawal of labour from the firm. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Are Unions Good or Bad for the Economy? Critics argue that unions cause the allocation of labour to be inefficient and inequitable. Wages above the competitive level reduce the quantity of labour demanded and cause unemployment. Some workers benefit at the expense of other workers. Advocates of unions contend that unions are a necessary antidote to the market power of firms that hire workers. They claim that unions are important for helping firms respond efficiently to workers’ concerns. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Theory Of Efficiency Wages Efficiency wages are above-equilibrium wages paid by firms in order to increase worker productivity. A firm may prefer higher than equilibrium wages for the following reasons: Worker Health: Better paid workers eat a better diet and thus are more productive. Worker Turnover: A higher paid worker is less likely to look for another job. Worker Effort: Higher wages motivate workers to put forward their best effort. Worker Quality: Higher wages attract a better pool of workers to apply for jobs. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Natural Rate of Unemployment The natural rate of unemployment is unemployment that does not go away on its own even in the long run. It is the amount of unemployment that the economy normally experiences. Cyclical unemployment refers to the year-to-year fluctuations in unemployment around its natural rate. It is associated with short-term ups and downs of the business cycle. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Figure 1 Unemployment Rate Since 1971 For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

How Long Are the Unemployed without Work? Most spells of unemployment for most people are short. Most unemployment observed at any given time is long-term. Most of the economy’s unemployment problem is attributable to relatively few workers who are jobless for long periods of time. Hysteresis refers to the effect is that the longer people are without work the less likely they are to be hired by firms. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Job Search Job search is the process by which workers find appropriate jobs given their tastes and skills. It takes time for qualified individuals to be matched with appropriate jobs. This unemployment is different from the other types of unemployment. It is not caused by a wage rate higher than equilibrium. It is caused by the time spent searching for the “right” job. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Why Some Frictional unemployment Inevitable Frictional unemployment often occurs because of a change in the demand for labour among different firms. If workers stop buying a good produced by Firm A and start buying a good produced by Firm B, some workers at Firm A will likely lose their jobs. New jobs will be created at Firm B, but it will take some time to move the displaced workers from Firm A to Firm B. The result of this transition is temporary unemployment. The same type of situation can occur across industries as well. The economy is always changing, so frictional unemployment is inevitable. Workers in declining industries will find themselves looking for new jobs, and firms in growing industries will be seeking new workers. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Public Policy and Job Search Government programmes can affect the time it takes unemployed workers to find new jobs. These programmes include the following: Government-run employment agencies. Public training programs. Unemployment insurance. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Public Policy and Job Search Government-run employment agencies give out information about job vacancies in order to match workers and jobs more quickly. Public training programs aim to ease the transition of workers from declining to growing industries and to help disadvantaged groups escape poverty. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Unemployment Insurance Unemployment insurance is a government programme that partially protects workers’ incomes when they become unemployed. Offers workers partial protection against job losses. Offers partial payment of former wages for a limited time to those who are laid off. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Unemployment Insurance Increases the amount of search unemployment. It reduces the search efforts of the unemployed. It may improve the chances of workers being matched with the right jobs. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Figure 1 Unemployment from a Wage Above the Equilibrium Level Labour supply Surplus of labour = Unemployment Labour demand Minimum wage LD LS WE LE Quantity of Labour

The Costs Of Unemployment Unemployment comes with costs to: The individual. Society and the economy as a whole. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Costs Of Unemployment To The Individual Loss of earnings. Increased risk of slipping into poverty. Self-esteem and health problems. Drug abuse and alcohol abuse and crime. Family breakdown. De-skilling. The individual loses touch with changes in work practices and technology. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Costs Of Unemployment To Society And The Economy. The opportunity cost of unemployment. Lost output. The tax and benefits effect. Lower tax revenues, higher welfare payments. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

The Reverse Multiplier Effect When people experience unemployment they: Cut back their spending on luxuries Goods with a relatively high income elasticity of demand are likely to be affected more significantly. These businesses cut back orders, lay off workers, take a hit on profits. So an increase in unemployment can produce a multiplied impact on economic activity as a whole. Knock on effect can be local as those supplying goods and services have to cut back and lay off workers. Switch their spending to substitute goods which may be seen as inferior goods. So some firms might see demand increase e.g. budget supermarkets. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Summary Most people who become unemployed find work within a short period of time. Most unemployment observed at any given time is attributable to a few people who are unemployed for long periods of time. One reason for unemployment is the time it takes for workers to search for jobs that best suit their tastes and skills. Structural unemployment is unemployment that results because the number of jobs available in some labour markets is insufficient to provide a job for everyone who wants one. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017

Summary Labour market imperfections is where unemployment is caused by wages being above the market equilibrium e.g. minimum wage laws, union power. A further cause of unemployment is suggested by the theory of efficiency wages. High wages can improve worker health, lower worker turnover, increase worker effort, and raise worker quality. There are costs to unemployment both for the individual and for society. For use with Mankiw and Taylor, Economics 4th edition 9781473725331 © Cengage EMEA 2017