1 Unemployment Here we look at the measurement of unemployment, issues related to measurement and other ideas. To me, the main economic problem of unemployment is that you have a capable person who is left idle. The world will never be able to replace what could have been made. We have lost something. The human problem is the pain and anguish of being out of work. People want to be productive. Because of issues such as these folks attempt to formulate policy that will help the economy overcome unemployment. We need to be sure the policy works!

2 Unemployment Let’s think about how unemployment is measured. People(16 years old or older and not in an institution) can be classified basically one of three ways(call it labor force status): 1) employed, 2) those wanting to work and currently looking for work but not working- this is what we call unemployed, 3) those who don’t want to work - like retired people or those seeking an education or a discouraged worker(we will see later). This third group could be called not in the labor force. Now the labor force = those employed + those unemployed.

3 Unemployment rate The unemployment rate = (those unemployed/labor force)100. Example: 60 people employed, 2 unemployed and 38 not in labor force. The unemployment rate = (2/62)100 = 3.2%. Note: labor force participation rate = (employed + unemployed) Divided by (employed + unemployed + those not in the labor force), then the whole thing times 100. Note: whether or not you collect unemployment payments is NOT an issue in calculating the unemployment rate.

4 Measurement problems The unemployment rate can be misleading because 1) if someone is underemployed( working part time, but wanting full time work, or working in a job that does not fully utilize their skills) the unemployment rate is too low – We don’t count partial unemployment – these are hidden unemployment ideas! 2) if someone is discouraged(someone who was looking for work, but has finally quit looking and is thus treated like a retired person) the unemployment rate is also too low. Let’s see how: (exaggerated example) 50 people working, 50 people unemployed, unemployment rate = 50/( ) =.5 or 50%. Now say 25 unemployed get discouraged and quit looking: rate = 25/( ) =.33 or 33% - this is lower than the 50%.

5 Year Unemployment rate 4% 6% This is not the actual history of the rate in the US, but has the flavor of the history. The rate tends to bounce around the 4% to 6% range. The rate can be higher or lower than these values for a while, but then comes back around to this range.

6 History of rate in US 1) The rate fluctuates 2) Rates were around 5% - considered low – for a long time from the 1990’s until the mid-2000’s 3) The rate never falls to zero (and we have ideas later to help us see this) 4) Unemployment changes have been cyclical – when we have a recession the rate rises and during periods of economic growth the rate falls. 5) As seen in the graph there is no upward or downward trend in the rate – it returns to the 4 to 6% range.

7 More US History – group rates Females used to have higher rates of unemployment compared to males, but in more recent times the rates are the same or maybe even having males with higher rates. Rates tend to be higher for lower aged workers. Rates tend to be higher for blacks and hispanics compared to whites. Rates tend to be higher for less educated workers, with those without a high school diploma have the highest rates.

8 Here is another way to think of the unemployed. New entrants - Unemployed persons who never worked before and who are entering the labor force for the first time. Re-entrants - Unemployed persons who previously worked but were out of the labor force prior to beginning their job search. Job leavers - Unemployed persons who quit or otherwise terminated their employment voluntarily and immediately began looking for work. Job losers - Unemployed persons who involuntarily lost their last job or who had completed a temporary job. This includes persons who were on temporary layoff expecting to return to work, as well as persons not on temporary layoff. Those not on temporary layoff include permanent job losers and persons whose temporary jobs had ended.

9 Duration Another facet of unemployment is the length of the unemployment. The text has a table with groupings of Under 5 weeks 5 to 14 weeks 15 to 26 weeks Over 27 weeks. International comparisons can be tricky due to differences in definitions and country conditions. But, in general, rates in US have compared favorably (lower).

Labor Market Wage Quantity of Labor D S W Q I want to re-introduce the labor market model and use it to think about some ideas related to unemployment. In the model the wage moves toward W and we get the amount traded at Q

Labor Market Wage Quantity of Labor D S W Q Let’s add to our demand shifter ideas (what are call determinants or factors of demand). In the national economy sense, when the economy is expanding or in a growth period (RGDP rising), demanders of labor will want even more labor than before and the demand will shift to the right. You should draw in the new wage and new amount traded.

Labor Market Wage Quantity of Labor D S W Q When the economy is contracting or in recession (RGDP is falling) demanders of labor reduce the amount of labor desired. Again, you draw in the new wage and new amount of labor traded.

13 Earlier in the term we said note that RGDP over time 1)Has a long term upward trend, 2)Has short term ups and downs (known as the business cycle). So, on the previous two slides we have our initial look at what happens in the labor market over the business cycle. But, there is a problem with our model. When demand shifts and we have adjustment we end up with a wage and quantity traded situation where supply and demand are equal. This would suggest that unemployment is zero. You and I know from the historical record that unemployment is not zero. So we have to modify our model!!!!!!

14 So, our model that allows wages to freely adjust says that unemployment does not exist. Our change in the model will be that wages are not freely adjusting, particularly in the downward direction – wages are sticky downward! Let’s think about why. Minimum wage laws would have the wage above where the supply and demand cross. Thus the quantity supplied would be greater than the quantity demanded and we would have unemployment. When the economy moves toward recession this could keep the wage from falling and thus unemployment results. Workers have an implicit contract with the firms they work for. This includes the idea that you only get a raise once or twice a year and your wage will usually not be lowered. With no lowering of a wage a recession would mean firms don’t lower wages, but may have to lay off workers.

15 Adverse selection story – stay with me on this one, it is neat! Businesses know that some employees are better than others (are some teachers at WSC better than others?). When a recession hits, if a business thinks about cutting wages for everyone it might face the following problem. The best workers might bum out and look for other jobs and leave and then the company will be left with the least productive workers. This is an “adverse selection” because the workers left will adversely impact the company. So, instead of lower all wages the firms opt to layoff or fire some workers. Unemployment results.

16 Insiders Vs. Outsiders – perhaps people who have jobs can prevent wages from falling and thus outsiders can not offer to work for less and have the market clear at the point where supply and demand are equal. The insiders are depended on the keep the company running, so firms are reluctant to cut their wages. Efficiency wage theory – pay workers more than you have to and thus there will be less turn-over and lower training costs. Overall costs are lower. But businesses demand a lower quantity than the quantity supplied and a surplus or unemployment occurs. The relative wage coordination argument says people are reluctant to take wage cuts because they worry others won’t have to take the cut. So those that have a cut are relatively worse off – they wouldn’t like it and thus fight to keep wages from falling.

Labor Market Wage Quantity of Labor D S W Q When the economy is contracting or in recession (RGDP is falling) demanders of labor reduce the amount of labor desired. Since we now have an understanding that wages are sticky downward the labor market does not adjust and there is unemployment. This is cyclical unemployment due to the cyclical decline in the economy.

18 Types of unemployment There are three types of unemployment: 1) Frictional, 2) structural, and 3) cyclical. Frictional unemployment includes those searching for and/or waiting to take jobs. A fresh out of school graduate may not get a job right away. During the search process this new entrant individual would be considered unemployed - provided they were not working elsewhere. Some people don’t accept the first job offer and thus wait. This is unemployment as well.

19 Types of unemployment Structural unemployment occurs when the structure of the economy changes and people lose jobs. An example of this would be at the turn of the century (19 th to 20 th ) when people in the US started buying cars. The blacksmith was no longer needed in the way they were in the past. This structure of demand change meant a loss of jobs. There could be supply changes as well. I don’t want you to think frictional and structural unemployment are painless. They are very painful to those involved. But these types of unemployment seem inevitable in an economy like ours. It takes time to find a job and we sometimes stop buying certain goods.

20 Types of unemployment Cyclical unemployment is that unemployment that occurs during the recessionary phase of the business cycle. If the swings in the business cycle could be eliminated we wouldn’t have this type of unemployment. The frictional and structural unemployment are more long term ideas about unemployment. We will likely have these types of unemployment.

21 Full employment The term full employment has a special meaning in macroeconomics. It does NOT mean everyone is working. Full employment is said to occur when there is no cyclical unemployment. There is still frictional and structural unemployment, but it is hard to do anything about that. We could force people to buy stuff they don’t want or we could force you to take the first job offered. But it seems we don’t want to do these things, so some unemployment is inevitable. There is a feeling among economists that the business cycle can be managed and thus cyclical unemployment can be eliminated.

22 The natural rate of unemployment When cyclical unemployment has been eliminated, not only do we have full employment, we say the rate of unemployment is at the natural rate. By the way, the RGDP = potential RGDP when the natural rate of unemployment is achieved. In other words, when we have eliminated the short run cycle impact on unemployment, the long term part just includes the frictional and structural components. So, the natural rate of unemployment is not 0!