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Chapter 31. unemployment

Chapter 31. unemployment. Gu Lihan. Introduction. The objective of this chapter is to study how employment is determined in the labor market We are considering the labor market in which the following relation should always hold: L = N+U

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Chapter 31. unemployment

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  1. Chapter 31. unemployment Gu Lihan

  2. Introduction • The objective of this chapter is to study how employment is determined in the labor market • We are considering the labor market in which the following relation should always hold: L = N+U Above, L is the labor force, N the level of employment and U is the unemployed.

  3. The Natural Rate of Employment • The Natural Rate of Unemployment is the unemployment rate at which the economy is at equilibrium. • Please note “the economy at equilibrium”. It is not referred to single or few markets but all the markets in the economy at equilibrium. Therefore, it is quite possible that the unemployment rate is not at its natural level, even if the product and money markets are at equilibrium.

  4. Natural Rate of Unemployment • Associated with the natural rate of unemployment is the natural level of employment and the natural level of output. • The natural level of output is also called the full-employment output

  5. Natural Rate of Unemployment • The natural rate of unemployment has very important policy implication. Generally, a government will not consider unemployment as being a problem if the unemployment rate is equal to or beyond its natural rate. Only if it is below its natural rate, it is then concerned by the government.

  6. Natural Rate of Unemployment • The determination of natural rate of unemployment. There exist some models that concern the determination of natural rate of unemployment. Generally, it is the institutional factors that are believed to determine the natural rate.

  7. Natural Rate of Unemployment • The determination of natural rate of unemployment: • the welfare policy of the government • the structural of information transmission • the industry concentration • the power of labor union • others?

  8. The Determination of Employment • In Keynesian analysis, the level of employment is determined by the level of output. • Note that this further implies that wage is not an important factor in the determination of employment

  9. The Determination of Employment • Specifically, assume there is a production function Y = F(N) Then the employment should be given by for the given output Y

  10. The Determination of Employment • Assume a linear production function Y=AN For a given output Y, the employment is simply given by N=Y/A

  11. Evidence: Okun’s Law • If this way of employment determination is correct, there must be a relation between output growth and unemployment rate. • Okun (1962) discovers a relation between the growth rate of output and the change in unemployment. See the graph in the class.

  12. Evidence: Okun’s Law • If using U.S. Data, is close to the average growth rate of GDP, which could be regarded as the normal level of (natural) growth rate;  is equal to -4. • Therefore, Okun’s law indicates that an 1% increase in GDP growth beyond normal will reduce unemployment rate by 0.4%.

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