Yr 12 HSC Economics Essay

Evaluate the effectiveness of policies aimed to reduce Australia’s unemployment rate

Reducing the rate of unemployment—the proportion of the workforce made up of

workers not working for more than 1 hour per week but actively seeking work and would
have worked had they had employment—is one of the principal objectives of the Australian
government. In recent years, many different policies on both the demand and supply sides of
economics have been used to reduce Australia’s cyclical, structural, classical, and long-term
unemployment. The combined effects of these policies have indeed successfully reduced
Australia’s unemployment rate to its current level of 5.1%. Thus, it is evident that policies
aimed to reduce Australia’s unemployment rate have been highly effective.
During economic downturns such as that that followed the GFC in late 2008, the
government used expansionary fiscal and monetary policy to support aggregate demand and
reduce cyclical unemployment—unemployment caused by a lack of economic activity. As the
GFC raised the unemployment rate from the Aug 2008 level
of 4.2%, the government adopted an expansionary fiscal
stance as its underlying cash surplus fell $19.7b (1.7% GDP)
to a deficit of -$27.b (-2.2% GDP). This funded fiscal
stimulus packages such as the ESS and the EC-NBP and
increased the government spending component of aggregate
demand. The demand for labour is derived on the demand
for other goods and services in the economy because as AD
increases in the economy, firms need to hire new labour to
increase their production and meet the increased demand. The deflationary gap is thus closed,
establishing a new equilibrium at the full employment level of income (Y F) rather than at
below full employment (YE). The EC-NBP also included programs that directly created jobs
especially in the construction industry. For example, the $16.2 Building the Education
Revolution increased demand for builders while the $3.9 Home Insulation Program supported
more manual workers. By comparing Australia’s unemployment peak of 5.8% to Europe’s
8.3%, the US’s 10.6% and the Treasury’s forecast of 8.5%, it is evident that fiscal policy
successfully sustained employment in the downturn. The Report OECD Employment Outlook
2009 further estimated that the stimulus saved 200,000 (1.9% of the workforce) jobs. Thus,
during the GFC, the use of fiscal policy has been very effective at reducing Australia’s
cyclical unemployment.
To further support aggregate demand, the RBA reduced its cash rate from 7.25% to the
“emergency level” of 3% in Apr 2009. As the cash rate falls, deposit-taking institutions
encounter less borrowing costs, which is passed onto customers in the form of lowered
general interest rates. This decreases the debt servicing costs of existing individual and
business debtors, increasing the amount of consumption and investment. Also, the decreasing
cost of credit discourages new investments, further adding to AD. Furthermore, as the general
cost of borrowing decreases in the economy, more people would undertake borrowing to fund
financial investments in assets. This increased demand for assets causes their prices to rise,
increasing confidence in the economy and further encouraging consumption. These
transmission mechanisms, along with others, all support aggregate demand. Thus, they would
once again reduce cyclical employment as previously discussed.
Nevertheless, in the long-term, macroeconomic policy
becomes ineffective at achieving internal balance. Since
increased AD moves an economy along the SRPC from A to B,
unemployment could indeed fall from U1 to U2, but this would
be accompanied by a rise in inflation from I1 to I2. This trade-
off between inflation and unemployment could not
nevertheless be exploited beyond the NAIRU. This is because
as inflation continues to increase, workers begin to build inflationary expectations into wage
claims. Thus, labour costs would rise and firms would dismiss staff. Unemployment thus
would return to the NAIRU as the economy moves from B to C. Expansionary
macroeconomic policies therefore can only be used when the unemployment rate is still
above the NAIRU.
To reduce the NAIRU, micro- rather than macroeconomic policy is needed to shift the
LRPC leftwards. Indeed, education and training programs have been implemented to reduce
structural unemployment on the supply side of economics. For example, the Higher
Education Endowment Fund (now absorbed by the Education Investment Fund), with a seed
capital of $5b, was established in 2007 as part of
the Realising Our Potential package to fund capital
investment in higher education and vocational
training. The $5.9b Education Revolution package,
meanwhile, provided funding for the establishment
of trade training centres in schools, access to early
childhood education and vocational education and
training. Since these programs ensure that workers
could quickly acquire new skills if their skills no
longer matched those demanded by employers,
they have been able to reduce Australia’s NAIRU from 7% in the 1980s and 1990s to 5% in
the 2000s. This could be represented by a leftward shift of Australia’s short-run Phillips
curve, where unemployment falls from U1 to U2 given any level of inflation I. Thus, it is
evident that the role of investment on education and training programs has been significant.
Labour market programs could also reduce the incidence of long-term unemployment
when they are specifically targeted at groups prone to long-term unemployment. Young
people, for example, are more likely to become unemployment for a prolonged period of time
because due to their lack of experience and skills, they are often the first to be dismissed at
the beginning of a recession and the last to be re-employed as economic activity recovers.
Thus, the Rudd government implemented the $277 Compact with Young Australians package
as part of its $1.5 Jobs and Training Compact program that provided funding to guarantee
people under the age of 25 a place in an education and training institution. This would reduce
the prevalence of hysteresis among young people, which occurs when short-term cyclical
unemployment transforms into long-term structural unemployment due to the loss of relevant
skills. This was one of the main reasons for which long-term unemployment only rose from
0.6% of the workforce from 2009 to 0.8% in 2010. This increase was significantly lower than
the rise in long-term unemployment from 1.3% in 1990 to 3.7% in 1993 during the previous
recession. Clearly, this policy has contributed towards lowered long-term unemployment.
In addition, policies that increase flexibility in the Wage Level
Australian labour market have successfully decreased classical S
D
unemployment in Australia. Classical unemployment occurs W
Min

when awards, minimum wages and regulations form a “safety W

E
net”, fixing real labour costs at W Min, which is above the market
equilibrium wage level of WE. At this price in the labour
S D
market, the supply of labour is QS, while the demand for labour
is only QD, causing a surplus of workers equivalent to the size O
Q Q Q Qty of
D E S
of QDQS. This would result in classical unemployment. To Labour

counter this problem, Australian Workplace Agreements (individual employment agreements)

have been introduced as part of the Workplace Relations Act 1996. AWAs have reduced
classical unemployment in the economy because it gave employers the ability to reduce their
real cost of labour by giving them the flexibility to override minimum award conditions.
Indeed, a report by the former Employment Advocate has found that all AWAs removed at
least one award conditions, while 16% have removed all but the five former Australian Fair
Pay and Conditions Standard. University of Sydney has in addition found that AWAs have on
average reduced male real labour costs by 2% and female real labour costs by 11%. This
reduced labour cost made the hiring of labour more affordable for firms, which was the
reason for which AWAs have contributed towards the fall in Australia’s unemployment rate in
the 2000s, which troughed at 4% in Feb 2008.
It is therefore evident that many policies, both macroeconomic and microeconomic are
available for the government to reduce the rate of unemployment in Australia. While
expansionary fiscal and monetary policies support aggregate demand and thus maintain firms’
demand for labour in downturns, structural reforms such as education and training packages,
labour market programs and decentralisation have also successfully reduced other forms of
structurally-caused unemployment. These policies are therefore all very efficient.