# 5: Unemployment

National Income & Business Cycles Ohio Wesleyan University Goran Skosples 5: Unemployment 1 Chapter objectives The natural rate of unemployment: what it means what causes it understanding its behavior in the real world 2 Key Concepts

Natural rate of unemployment Frictional unemployment Structural unemployment Sectoral shift Unemployment insurance Wage rigidity Insiders and outsiders Efficiency wages Minimum wage 3 Natural Rate of Unemployment Natural rate of unemployment:

the _______ rate of unemployment around which the economy fluctuates. actual unemployment = In a recession, the actual unemployment rate ____________ the natural rate. In a boom, the actual unemployment rate _______________ the natural rate. 4 Actual and natural rates of unemployment in the U.S., 19602019 5 A first model of the natural rate Notation: L = # of workers in labor force E = # of employed workers

U = # of unemployed U/L = unemployment rate 6 Assumptions: 1. L is exogenously fixed. 2. During any given month, s = fraction of employed workers that become separated from their jobs, f = fraction of unemployed workers that find jobs. s = rate of job separations f = rate of job finding (both exogenous) 7 The transitions between

employment and unemployment Employed Unemploye d 8 The steady state condition Definition: the labor market is in steady state, or long-run equilibrium, if the unemployment rate is ________. The steady-state condition is: 9 Solving for the equilibrium U rate

f U = s E Solve for U/L: so, 10 Example: Each month, 1% of employed workers lose their jobs (s = 0.01) Each month, 19% of unemployed workers find jobs (f = 0.19) Find the natural rate of unemployment: 11 Active Active Learning:

Learning: If the rate of separation is 0.03 and the rate of job finding is 0.21, what is the value of the natural rate of unemployment? s= f= Equilibrium: U/L = 12 policy implication How can a policy affect (reduce) the natural rate of unemployment? A policy will reduce the natural rate of unemployment only if it

______ s, or ___________ f. Can you think of a policy that would be able to reduce the natural rate of unemployment? 13 Why is there unemployment? If job finding were instantaneous (f = 1), then all spells of unemployment would be brief, and the natural rate would be near zero. There are two reasons why f < 1: 1. job search (__________) 2. wage rigidity (__________) 14

Job Search & Frictional Unemployment frictional unemployment: caused by the time it takes workers to search for a job occurs because workers have different _____________________ jobs have ________________ geographic mobility of workers _____________ flow of information about vacancies and job candidates __________________ 15 Sectoral shifts def: Changes in the ____________________ among industries or regions. example: ____________________

more jobs repairing ___________, fewer jobs repairing ____________ example: _____________________________ labor demand increases in ________ sectors, decreases in ____________________ sectors Result: _________ unemployment 16 CASE STUDY: Structural change over the long run Agriculture Manufacturing Other industry Services 1960

57.9% 2017 77.4% 4.2% 11.2% 10.6% 0.9% 9.9% 28.0% 17 More examples of sectoral shifts Industrial revolution (1800s): agriculture declines, manufacturing soars

Energy crisis (1970s): demand shifts from larger cars to smaller ones Health care spending as % of GDP: 1960: 5.2 1980: 9.1 2000: 13.8 2010: 17.9 18 Unemployment insurance (UI) UI pays part of a workers former wages for a limited time after losing his/her job. UI __ search unemployment, because it: __ the opportunity cost of being unemployed __ the urgency of finding work __ f

Benefits of UI By allowing workers more time to search, UI may lead to ______ matches between jobs and workers, which would lead to ______ productivity and ______ incomes. 19 Why is there unemployment? U s The natural rate of unemployment: L s f There are two reasons why f < 1: DONE 1. job search Next 2. wage rigidity

20 Unemployment from real wage rigidity Structural unemployment: the unemployment resulting from _________________ and ______________. If the real wage is stuck above the eqm level, then there arent enough jobs to go around. Real

wage Suppl y Demand Labor 21 Reasons for wage rigidity 1. The minimum wage The min. wage may exceed the eqm wage Which workers are more likely to be impacted? Studies: a 10% increase in min. wage increases teen unemployment by ______ 22 2. Labor unions Unions exercise monopoly power to secure

higher wages for their members. When the union wage exceeds the eqm wage, unemployment results. _________: Employed union workers whose interest is to keep wages high. _________: Unemployed non-union workers who prefer eqm wages, so there would be enough jobs for them. 23 Union membership and wage ratios by industry, 2011 industry # employed U % of total

(1000s) wage ratio Private sector (total) 104,737 6.9 122.6 Government (total) 20,450 37.0 121.1

Construction 6,244 14.0 151.7 780 7.2 96.4 Manufacturing 13,599 10.5

107.2 Retail trade 14,582 4.9 102.4 Transportation 4,355 20.4 123.5 Finance, insurance

6,111 1.1 90.2 Professional services 12,171 2.1 99.1 Education 4,020 13.0

112.6 Health care 15,835 7.5 114.9 Mining wage ratio = 100 (union wage) / (nonunion wage)union wage) / (union wage) / (nonunion wage)nonunion wage) 24 3. Efficiency wage theory Theories in which higher wages increase worker productivity by:

attracting higher increasing worker reducing improving Firms _______ pay above-equilibrium wages to raise productivity. Result: __________ unemployment. 25 Question for discussion: Use the material weve just covered to come up with a policy or policies to try to reduce the natural rate of unemployment. Note whether your policy targets frictional or structural unemployment.

26 The duration of U.S. unemployment, average, Jan 1960 June 2009 # of weeks unemployed # of unemployed persons in group (% of all unemployed persons) time spent unemployed by this group (% of time spent unemployed by all groups)

1-4 42% 8.1% 5-14 30% 21.5% 15 or more 27% 70.4% 27

TREND: The natural rate rises over 1960-84, then falls over 1985-2005 28 EXPLAINING THE TREND: The minimum wage \$9 Dollars per hour \$8 \$7 \$6 \$5 minimum wage in 2009 dollars

\$4 \$3 \$2 minimum wage in current dollars \$1 \$0 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 29 EXPLAINING THE TREND: Union membership Union membership selected years year

percent of labor force 1930 12% 1945 35% 1954 35% 1970 27% 1983

20.1% 2012 11.3% Since Since early early 1980s, 1980s, the the natural natural rate rate and and union union membership membership

have have _________. _________. But, But, from from 1950s 1950s to to about about 1980, 1980, the the natural natural rate rate ____ ____ while while union union membership

membership ____. ____. 30 EXPLAINING THE TREND: Sectoral shifts 140 120 100 80 60 40 Price per barrel of oil, in 2009 dollars 20

0 1965 1970 1975 1980 1985 1990 1995 2000 2005 31

2010 EXPLAINING THE TREND: Demographics 1970s: The Baby Boomers were young. Young workers change jobs more frequently (high value of __). Late 1980s through today: Baby Boomers aged. Middle-aged workers change jobs less often (low __). 32 Natural Rate of Unemployment and Policy

Before the recession around 5% Now estimates around ________% - Long-term unemployed skills and attractiveness to employers - Heightened mismatch - Higher unemployment benefits Fed (______ mandate) monetary policy? NAIRU 33 Summary 1. The natural rate of unemployment the long-run average or steady state rate of unemployment depends on the rates of job separation and job finding 2. Frictional unemployment

due to the time it takes to match workers with jobs may be increased by unemployment insurance 34 Summary 3. Structural unemployment results from wage rigidity: the real wage remains above the equilibrium level caused by: minimum wage, unions, efficiency wages 4. Behavior of the natural rate in the U.S. rose from 1960 to early 1980s, then fell possible explanations: trends in real minimum wage, union membership, prevalence of sectoral shifts, and aging of the Baby Boomers 35

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