Overview • Unemployment arises in both the growth and the
cyclical parts of macroeconomics. Any contemporary account of unemployment must therefore attempt to define and explain each of these sources. So the natural rate or, alternatively, frictional and structural unemployment are due to the enduring features of an economy in normal times, while cyclical unemployment is a consequence of economic fluctuations. Due to the close connection between cyclical unemployment and economic fluctuations, detailed discussion of the underlying connections is deferred until the model of economic fluctuations is introduced and developed in later chapters.
Teaching Objectives • Develop a clear set of definitions of unemployment and employment that is consistent with government reports of these data. • Use the demand and supply model as it applies to the labor market in the determination of real wages, employment, and unemployment. • Discuss the policy implications of the demand and supply for labor model.
1. Employment and Unemployment Trends • The labor force consists of all people who are 16 or over, employed or unemployed. The current population survey is the source of this number. • The distinction between employed and unemployed depends on whether the person is paid or not. The labor force consists of the employed plus the unemployed,
the latter consisting of those in the labor force but not employed. Discouraged workers are not in the labor force and so are not counted as unemployed. • Part-time workers (1 to 34 hours per week) are counted as employed. See Figure 21.2.
• The unemployment rate, or unemployed/labor force. Figure 20.1 makes clear the relation between unemployment and real GDP. • The labor force participation rate, or labor force/working-age population. It fluctuates with real GDP as does unemployment. • The employment-to-population ratio, or employed/working-age population. These ratios are given in Figure 20.3.
Adjustments • Because the labor force is composed of both fulltime workers and a significant number of part-time workers, the number employed needs to be supplemented by other measures that reflect this fact. Aggregate hours = (average hours per worker) x (labor force participation) x (workingage population).
Unemployment and GDP • Increases in unemployment reduce real GDP as the labor input to production falls because fewer workers are employed. So an increase in the natural rate reduces potential real GDP, provided there are no accompanying changes in productivity to be accounted for.
3. Determination of Employment and Unemployment • The relationship between labor demand and supply is given in Figure 20.6, determining the equilibrium quantity of full-employment labor and the real wage. • Two broad trends in labor are the general increase in real wages and employment. This is associated with a shift in the demand for labor, as seen in Figure 20.7, due in part to the growth of service industries, which hire more women. Women are quite sensitive to changes in real wages, so the increased demand in service industries probably explains the higher participation rate by women.
Other Explanations for Unemployment • In order to account for unemployment in a model such as Figure 20.6, it is necessary to introduce some explanation outside of equilibrium. Two complementary explanations are job rationing and job search. • Job rationing is depicted in Figure 21.8 in terms of excess supply that is always present, not allowing for the normal downward price (real wage) adjustment due to: (1) the minimum wage law and its effect on teenage unemployment; (2) insiders sometimes preventing outsiders from being employed; (3) employers paying efficiency wages.
Policy implications of the demand and supply model of the labor market • The policy implications of the demand and supply model of the labor market are discussed in terms of the effect on employment and the natural rate of unemployment. • Taxes such as a payroll tax affect the demand for labor, as seen in Figure 20.13. For example, an increase in the social security tax will reduce the demand for labor by the amount of the tax, reducing the real wage and employment.