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Chapter 6

Unemployment

P OTuitional EBA Macroeconomics

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Natural rate of unemployment

The average rate of unemployment

around which the economy fluctuates.

In a recession, the actualunemployment rate rises above thenatural rate.

In a boom, the actual unemploymentrate falls below the natural rate.

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Let L = Labor force

E = Employed workers

U = Unemployed workers

L = E + U

U/L = Unemployment rate

Assumptions:

1. L is exogenously fixed

2. During any given month

s= fraction of employed workers

that become separated from their jobsf= fraction of unemployed workers

that find jobs4

The transitions between employment andunemployment

Employed Unemployed

Job Separation

Job findingIn every period, a fraction s of the employed lose their jobs, and afraction f find jobs. The rates of job separation and job finding determinethe rate of unemployment.

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The steady state condition

Definition: the labor market is in

steady state, or long-run equilibrium,if the unemployment rate is constant.

The steady-state condition is:

sE = fU

# of employedpeople wholose or leavetheir jobs

# of unemployedpeople who findjobs

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We can rearrange this equation to find the steady-stateunemployment rate. Note that E = L U; that is, thenumber of employed equals the labor force minus thenumber of unemployed. This implies that

f x U = s (L U)

Divide both sides of this equation by L to obtain

Then solve for U/L to find

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Example:

Each month,

1% of employed workers lose their jobs

(s= 0.01) 19% of unemployed workers find jobs

(f= 0.19)

Find the natural rate of unemployment:

0 010 05, or 5%

0 01 0 19

U s

L s f

= = =

+ +

..

. .

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Real-Wage Rigidity and Wait Unemployment

Wage rigidity The failure of wages to adjust until laborsupply equals labor demand.

Labor

Real

wage

Supply

Demand

Amount of laborwilling to work

Amount oflaborhired

Wages are notalways flexible.

If the real wageis stuck above theequilibrium level,then the supply oflabor exceeds the

demand. Theresult isunemployment.

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Wait unemployment Resulting from Wage rigidityand job rationing.

Causes of wage rigidity1. Minimum-wage laws. The min. wage may

exceed the eqm wage of unskilled workers, especiallyteenagers.

2. The monopoly power of labor unions. Unions exercise monopoly power to secure higher

wages for their members.When the union wage exceeds the eqm wage,

unemployment results.

3. Efficiency wagesTheories in which higher wages increase worker

productivity by: attracting higher quality job applicants increasing worker effort, reducing shirking reducing turnover, which is costly to firms Improving health of workers

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Chapter SummaryChapter Summary

1.The natural rate of unemployment

the long-run average or steady state rate ofunemployment

depends on the rates of job separation and jobfinding

2.Frictional unemployment

due to the time it takes to match workers withjobs

may be increased by unemployment insurance

CHAPTER 6 Unemployment slide 10

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Chapter SummaryChapter Summary

3.Structural unemployment

results from wage rigidity: the real wage

remains above the equilibrium levelcaused by: minimum wage, unions, efficiency

wages

4.Duration of unemployment

most spells are short term

but most weeks of unemployment areattributable to a small number of long-term

unemployed personsCHAPTER 6 Unemployment slide 11

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Test Your self

The civilian labor force does not include

1. Worker under the age of 16

2. The unemployed

3. Part-time workers

4. Anyone working in a family business without pay

To be counted as unemployed, an individual must

1. Not have a job.

2. Not have a job and be looking for work.

3. Not have a job, be looking for work, and be willing to accept

the first job offer he receives.

4. Have held a job in the past, not have a job now, be looking forwork, and be willing to accept the first job offer

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How does the underground economy affect themeasurement of unemployment?

1. It causes the reported unemployment rate to be higher thanthe true.

2. It causes the reported unemployment rate to be lower than

the true.3. It has no affect.

4. It affects the reported unemployment rate in varying, butunpredictable, ways.

Which type of unemployment is associated with arecession?

1. Frictional.2. Seasonal

3. Structural

4. Cyclical. 14

Which type of unemployment is associated withtechnological change?

1. Frictional.

2. Seasonal

3. Structural

4. Cyclical.

Which type of unemployment is typically long term?

1. Frictional.

2. Seasonal

3. Structural

4. Cyclical.

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Suppose the country of Worklandia has a population of100,00 persons age 16 and above. Of these persons70,000 are working, 3,000 have no job, but are lookingfor a job, 7,000 of them are discouraged workers, andthe rest are either students or retired. What is the laborforce participation rate? What is the unemployment rate?

Give the explanations for a real wage above the levelthat equilibrates labor supply and labor demand.

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