ECON 151 – Macroeconomics

Instructor: Bob DiPaolo

Unemployment

Chapter 6
Materials include content from McGraw-Hill/Irwin which has been modified by the
instructor and displayed with permission of the publisher. All rights reserved.
Introduction
 This chapter focuses on:
 When is a person “unemployed”?
 What are the costs of unemployment?
 What is an appropriate policy goal for “full
employment”?
The Labor Force
 The labor force includes all persons over
age sixteen who are either working for pay
or actively seeking paid employment.
 People who are not employed or are not
actively seeking work are not considered
part of the labor force.
 The labor-force participation rate is the
percentage of the population working or
seeking employment.
The Labor Force, 2000
Total population (275,372,000)

Out of the labor force (133,086,000) In civilian labor force (142,286,000)

Under age 16 Civilians employed(135,208,000)

(62,541,000)
Homemakers
(20,343,000) Unemployed Armed forces
(5,655,000) (1,423,000)
In school (9,130,000)
Retired (29,813,000)
Sick and disabled
(7,142,000) Institutionalized
(3,628,000) Other (489,000)
A Growing Labor Force
300

250

Population
200
Participation Rates
(age 16 and older) 150
Year Men Women
1950 86.4 33.9 Labor force
1960 83.3 37.7 100
1970 79.7 43.3
1980 77.4 51.5
1990 76.4 57.5 50
2000 74.7 60.0
0
1950 1960 1970 1980 1990 2000
YEAR
Growth of Production
Possibilities
 Production possibilities are the
alternative combinations of final goods
and services that could be produced in a
given time period with all available
resources and technology.
 Production is limited by two factors:
 The availability of factors of production.
 Technological know-how.
Institutional Constraints
 Production possibilities in any year
depend on available resources and
technology and on how we choose to
restrict their use.
 The size of labor force is limited by
participation rates and social regulation.
Institutional Constraints
 Preventing small children, students, and
others from working reduces the size of
the labor force and potential output.
 Constraints are also imposed on the use of
material resources and technology.
Labor Force Growth
 As the labor force grows, the production
possibilities curve shifts outward.
 This outward shift illustrates the increased
capacity to produce goods and services
given available technology and
institutional constraints.
Labor Force Growth
Investment Goods (units per year)

C Labor-force growth
increases
A production
H possibilities

F G

O B D
Consumption Goods (units per year)
Okun’s Law
 Arthur Okun quantified the relationship
between the shortfall in real output and
unemployment.
 Okun’s Law asserts that 1% more
unemployment is estimated to equal 2
percent less output.
 The 2 to 1 ratio puts a dollar value on the
aggregate cost of unemployment.
Okun’s Law
 High unemployment in 1992 left the U.S.
$240 billion short of its production
possibilities — a loss of $920 of goods
and services for every American.
Measuring Unemployment
 Unemployment is the inability of labor-
force participants to find jobs.
 U.S. Census Bureau surveys about 60,000
households a month to determine how
many people are actually unemployed.
 A person is considered unemployed if he
or she is not employed and is actively
seeking a job.
The Unemployment Rate
 The unemployment rate is the proportion
of the labor force that is unemployed.
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Duration of Unemployment: 2000
 When the economy is growing, both unemployment
rates and the average duration of unemployment
decline.
Reasons for Unemployment
 How long a person remains unemployed is
affected by the nature of the joblessness.
 Job leavers
 Job losers
 Reentrants
 New entrants
Reasons for Unemployment

Job
New leavers
entrants 14%
8%

Job losers
Reentrants 44%
34%
Discouraged Workers
 When unemployment persists, job seekers
become increasingly frustrated in their efforts to
secure employment and give up looking.
 A discouraged worker is an individual who is
not actively seeking employment but would look
for or accept a job if one were available.
 Discouraged workers are not counted as part of
the unemployment problem after they give up
looking for a job.
Underemployment
 Some people are forced to take any job
available.
 These people are excluded from the count of
unemployed, but not from the condition of
underemployment.
 Underemployment exists when people seeking
full-time paid employment work only part time or
are employed at jobs below their capability.
 Underemployed workers represent labor
resources that are not being fully utilized.
The Phantom Unemployed
 Some of the people who are counted as
unemployed probably should not be.
 Many people report that they are actively
seeking work when they have little interest in
finding a job.
 Public policy encourages this behavior by
requiring most welfare and unemployment
benefit receivers to provide evidence that they
are looking for work.
Europe’s Unemployment Woes
 Unemployment levels in Europe are much
higher than those of the U.S.
 Generous unemployment benefits cushion
personal losses from joblessness, but also
discourage European workers from
accepting new jobs.

CIA World Fact Book

The Human Costs
 The most visible impact of unemployment
on individuals is loss of income
 Over a long period, such losses can spell
financial disaster.
 The human cost of unemployment
includes social, physical, and
psychological costs as well.
Seasonal Unemployment
 Seasonal unemployment is the unemployment
due to seasonal changes in employment or labor
supply.
 At the end of each season, thousands of
workers must go searching for new jobs,
experiencing seasonal unemployment in the
process.
 Statistical adjustments are made for seasonal
unemployment.
Frictional Unemployment
Frictional unemployment is the brief periods of
unemployment experienced by people moving
between jobs or into the labor market.
 Frictional unemployment differs from other
unemployment in three ways:
 There is an adequate demand for the labor of
the frictionally unemployed.
 The frictionally unemployed have the skills
required for existing jobs.
 The job-search period will be relatively short.
Structural Unemployment
 Structural unemployment is the
unemployment caused by a mismatch
between the skills (or location) of job
seekers and the requirements (or location)
of available jobs.
 Periods between jobs will be lengthened
when the unemployed lack the skills that
employers require.
Cyclical Unemployment
 Cyclical unemployment is the unemployment
attributable to the lack of job vacancies – i.e., to
an inadequate level of aggregate demand.
 Cyclical unemployment occurs when there are
simply not enough jobs to go around.
 The Great Depression is the most striking
example of cyclical unemployment.
 The economy must grow at least as fast as the
labor force to avoid cyclical unemployment.
The Unemployment Record
25
Rate of Unemployment

20
(Percent)

15

10

0
1910 1920 1930 1940 1950 1960 1970 1980 1990 2000
The Full-Employment Goal
 In the Employment Act of 1946, Congress
committed the federal government to
pursue a goal of “maximum” employment.
 Congress didn’t specify what the rate of
unemployment should be.
The Full-Employment Goal
 Full employment is not the same as zero
unemployment.
 A full employment goal presumably means
avoiding as much cyclical and structural
unemployment as possible, while keeping
frictional unemployment reasonably low.
Inflationary Pressures
 The first attempt to define full employment
more precisely was undertaken in the
early 1960s by the Council of Economic
Advisors.
 They concluded that rising prices are a
signal that employment is nearing
capacity.
Inflationary Pressures
 The Council placed full employment at 4% —
below that, prices begin rising.
 4% unemployment was regarded as an
acceptable compromise of employment and
price goals.
 Later, however, during the 1970s and early
1980s the 4% unemployment goal was
considered too high.
Changes in Structural Unemployment
 Unemployment stayed far above 4% even
when the economy expanded, and
inflation began to rise at higher levels of
unemployment.
 Critics suggested that structural barriers to
full employment had gotten worse.
 More youth and women.
 Liberal transfer payments.
 Structural changes in demand.
Redefining Full Unemployment
 In view of these factors, the Council of
Economic Advisers later raised the level of
unemployment thought to be compatible
with price stability.
 In 1983, the Reagan administration
concluded that the “inflation-threshold”
unemployment rate was between six and
seven percent.
Declining Structural Pressures
 The structural barriers that intensified
inflationary pressures in the 1970s and
early 1980s receded in the 1990s, making
it easier to lower unemployment rates
without increasing inflation.
 In 1991 full employment was equivalent to
5.5 percent.
 In 1999, the Clinton administration
suggested the full employment threshold
might have dropped to 5.3 percent.
The “Natural” Rate of
Unemployment
 The ambiguity about what rate of
unemployment triggers an upsurge in
inflation has convinced some analysts to
abandon the inflation-based concept of
“full” employment.
 The natural rate of unemployment is the
long-term rate of unemployment
determined by structural forces in labor
and product markets.
The “Natural” Rate of
Unemployment
 The “natural” rate of unemployment
consists of frictional and structural
components only.
 If the structural determinants of
unemployment change, so does the level
of “natural” unemployment.
Congressional Targets
 The Full Employment and Balanced Growth Act
of 1978 (Humphrey-Hawkins Act) states our
national goal is a 4% unemployment rate with a
required goal of 3% inflation.
 The “escape clause” is that in the event that both
goals could not be met, the President could set
higher “provisional” definitions of employment.
The Historical Record
 Although there is ambiguity about the
specific definition of full employment, the
historical record is clear on our failure to
maintain it.
 Our greatest failure occurred during the
Great Depression, when as much as one-
fourth of the labor force was unemployed.
The Historical Record
 Unemployment rates fell dramatically during
World War II — the civilian unemployment rate
reached a rock bottom 1.2 percent.
 Since 1950, unemployment rate has fluctuated
from a low of 2.8 percent during the Korean War
(1953) to a high of 10.8 percent during the 1981-
82 recession.
 From 1982 to 1989, unemployment fell, but shot
up again in the 1990-91 recession.
A Growing Skills Gap?
 As the skills gap widens, structural
unemployment increases.
 The skills gap is the gap between skills
required for emerging jobs and the skills of
workers.
 The rapid pace of structural change
represent a major challenge for the U.S.
economy in the future.
New Jobs
 Our success in achieving full employment in the
economy of tomorrow will depend on both
structural and cyclical forces.
 Ninety-eight percent of all new jobs created in
the next decade will be service jobs.
 The new jobs of tomorrow will require increasing
levels of education and skill.
 Workers without the right skills will find
themselves out of step with a fast-changing
market.
Projected Employment
Changes: 1996-2006
ECON 151 – MACROECONOMICS

Unemployment

End of Chapter 6