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CHAPTER 12. “Now joblessness isn’t just for philosophy majors.” -Kent Brockman. History of Unemployment In the United States.

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Chapter 12
CHAPTER 12

“Now joblessness isn’t just for philosophy majors.”

-Kent Brockman


History of unemployment in the united states
History of Unemployment Inthe United States

Although the unemployment rate in the United States drifted upward between 1960 and 1990, the economic expansion of the 1990s reduced the unemployment rate substantially.

Unemployment rose to 9.6 percent by 2010 following deterioration of economic conditions in 2008

Recent unemployment rates in the U.S. have exceeded unemployment rates in Germany and France




Frictional unemployment
Frictional Unemployment

Frictional unemployment arises when workers and firms need time to locate each other and to digest information about the potential job match.

Even a well-functioning competitive economy experiences frictional unemployment, because some workers will unavoidably be “between” jobs.


Structural unemployment
Structural Unemployment

Structural unemployment arises when there is an imbalance between the supply of workers and the demand for workers or when unemployment arises because of a mismatch between worker skills and the skills needed by firms.

Structural unemployment is the most concerning type of unemployment for an economy as the skills embedded in labor are no longer being put to productive use.


The rate of unemployment
The Rate of Unemployment

The steady-state rate of unemployment depends on the transition probabilities among employment, unemployment, and the nonmarket sector.

Letl = the fraction of employed workers who lose their jobs and become unemployed

Let h = the fraction of unemployed workers who find work and get hired

In the steady state lE = hU, and since the Labor Force is LF = E + U, then

The Unemployment Rate, UR = U/LF = l/(l + h)



Unemployment duration
Unemployment Duration

Although most spells of unemployment do not last very long, most weeks of unemployment can be attributed to workers who are in very long spells.




Flows between employment and unemployment
Flows Between Employment and Unemployment 1994-2007

Job Losers (E)

Employed

(E workers)

Unemployed

(U Workers)

Job Finders (h U)

Suppose a person is either working or unemployed. At any point in time, some workers lose their jobs and unemployed workers find jobs. If the probability of losing a job equals , there are E job losers. If the probability of finding a job equals h, there are hU job finders.


Dynamic flows in the u s labor market
Dynamic Flows in the U.S. Labor Market 1994-2007

1.8 million

Unemployed:

7.4 million

Employed:

130.0 million

2.0 million

3.6 million

1.8 million

1.6 million

3.4 million

Out of Labor Force:

69.3 million


Job search
Job Search 1994-2007

The asking wage makes the worker indifferent between continuing his search activities and accepting the job offer at hand.

An increase in the benefits from search raises the asking wage and lengthens the duration of the unemployment spell.

An increase in search costs reduces the asking wage and shortens the duration of the unemployment spell.


The wage offer distribution
The Wage Offer Distribution 1994-2007

Frequency

$5

$8

$22

Wage

$25

The wage offer distribution gives the frequency distribution of potential job offers. A given worker can get a job paying anywhere from $5 to $25 per hour.


Determination of the asking wage
Determination of the Asking Wage 1994-2007

Dollars

MC

MR

Wage Offer

at Hand

0

w

$25

$20

$10

$5

The marginal revenue curve gives the gain from an additional search. It is downward sloping because the better the offer at hand, the less there is to gain from an additional search. The marginal cost curve gives the cost of an additional search. It is upward sloping because the better the job offer at hand, the greater the opportunity cost of an additional search. The asking wage equates the marginal revenue and the marginal cost of search.


Discount rates unemployment insurance and the asking wage
Discount Rates, Unemployment Insurance, and the Asking Wage 1994-2007

Dollars

MC0

MC

MC1

MR0

MR1

MR

Wage

Wage

w1

w1

w0

w0

(a) Increase in discount rates

(b) Increase in unemployment benefits


Unemployment insurance
Unemployment Insurance 1994-2007

Unemployment benefits are typically paid up to 26 weeks of unemployment, but this length is frequently extended by Congress during recessions.

The level of unemployment benefits depends on previous earnings. The replacement ratio averages about 60 percent for low-wage workers and about 25 percent for high-wage workers.

Unemployment insurance lengthens the duration of unemployment spells and increases the probability that workers are laid off temporarily.



Funding the ui system imperfect experience rating
Funding the UI System: Imperfect Experience Rating 1994-2007

Tax rate

tMAX

tMIN

Layoff Rate in the Past

0

l1

l0

If the firm has very few layoffs (below threshold l0), the firm is assessed a very low tax rate to fund the UI system. If the firm has had many layoffs in the past (above some threshold l1), the firm is assessed a tax rate, but this tax rate is capped at tMAX.


The intertemporal substitution hypothesis
The Intertemporal Substitution Hypothesis 1994-2007

The intertemporal substitution hypothesis argues that the huge shifts in labor supply observed over the business cycle may be the result of workers reallocating their time so as to purchase leisure when it is cheap (that is, during recessions).


The sectoral shifts hypothesis
The Sectoral Shifts Hypothesis 1994-2007

The sectoral shifts hypothesis argues that structural unemployment arises because the skills of workers cannot be easily transferred across sectors.

The skills of workers laid off from declining industries have to be retooled before they can find jobs in growing industries.


Efficiency wages and unemployment revisited
Efficiency Wages and Unemployment (Revisited) 1994-2007

Efficiency wages arise when it is difficult to monitor worker output.

The above-market efficiency wage generates involuntary unemployment.


The determination of the efficiency wage
The Determination of 1994-2007the Efficiency Wage

If shirking is not a problem, the market clears at wage w* (where supply S equals demand D). If monitoring is expensive, the threat of unemployment can keep workers in line. If unemployment is high (point F), firms can attract workers who will not shirk at a very low wage. If unemployment is low (point G), firms must pay a very high wage to ensure that workers do not shirk. The efficiency wage wNS is given by the intersection of the no-shirking supply curve (NS) and the demand curve.

Dollars

S

NS

G

Q

wNS

F

P

w*

D

Employment

E

ENS


The impact of an economic contraction on the efficiency wage
The Impact of an Economic Contraction on the Efficiency Wage 1994-2007

Dollars

NS

wNS

0

w*

0

D0

wNS

w*

D1

Employment

E

E0

E1

S

A fall in output demand shifts the labor demand curve from D0 to D1. The competitive wage falls from w*0 to w*. If firms pay an efficiency wage, the contraction in demand also reduces the efficiency wage but by a smaller amount.


The relation between wage levels and unemployment across regions
The Relation Between Wage Levels and Unemployment Across Regions

Wage

B

A

Unemployment

Rate

Geographic regions (such as B) that offer higher wage rates also tend to have lower unemployment rates. Efficiency wage models help explain this pattern: firms located in regions with high unemployment rates do not need to offer a very high wage to discourage shirking.


Implicit contracts
Implicit Contracts Regions

Implicit contract theory argues that workers prefer employment contracts where incomes are relatively stable over the business cycle, even if such contracts imply reductions in hours of work during recessions.


The phillips curve
The Phillips Curve Regions

A downward-sloping Phillips curve can only exist in the short run.

In the long run, there is no trade-off between inflation and unemployment.


Chapter 12

Rate of Inflation Regions

B

4

A

3

Unemployment

Rate

The Phillips Curve

The Phillips curve describes the negative correlation between the inflation rate and the unemployment rate. The curve implies that an economy faces a trade-off between inflation and unemployment.



The short run and long run phillips curves
The Short-Run and Long-Run Phillips Curves Regions

Rate of Inflation

Long Run

B

7

A

0

Short Run

Unemployment

Rate

3

5


The short run and long run phillips curves1
The Short-Run and Long-Run Phillips Curves Regions

The economy is initially at point A (on the previous graph); there is no inflation and a 5 percent unemployment rate.

If monetary policy increases the inflation rate to 7 percent, job searchers will suddenly find many jobs that meet their reservation wage and the unemployment rate falls in the short run, moving the economy to point B.


Chapter 12

Over time, workers realize that the inflation rate is higher and will adjust their reservation wage upward, returning the economy to point C.

In the long run, the unemployment rate is still 5 percent, but there is now a higher rate of inflation. In the long run, therefore, there is no trade-off between inflation and unemployment.

The Short-Run and Long-Run Phillips Curves



Unemployment in europe
Unemployment in Europe Least 12 Months

The combination of…

high unemployment insurance benefits

employment protection restrictions

wage rigidity…

…probably accounts for the high levels of unemployment observed in Europe in the 1980s and 1990s.