IB ECONOMICS

Part 2
Solutions to
Unemployment
Types of unemployment (Review)

Disequilibrium unemployment

Classical or Real Wage unemployment

Unemployment caused by market distortions that
interfere with the working of the labour market.

Demand
Demand--deficient or cyclical unemployment
Related to the cyclical downturns in the economy.

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Economics 2017 5 Year
Pablo J. Torrecilla
Types of unemployment (Review)

Equilibrium unemployment
Natural unemployment
Unemployed people even under labour market equilibrium.

Frictional unemployment
Short term unemployment, in-
in-between jobs

Seasonal unemployment
Demand for certain labour varies on a seasonal basis.

Structural unemployment

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Permanent fall in demand for a particular type of labour.
Economics 2017 5 Year
Pablo J. Torrecilla
Solutions to real-
real-wage unemployment

If unemployment is caused by market distortions,

the government can act to diminish or eliminate
the restrictions that prevent the labour market
from clearing.
Consequences
Reducing labour union power might not be easy.
Lesser labour market regulations would probably
affect the lower salary workers the most.
Labour flexibility -> Worsening in the distribution of
income. Colegio San Jorge Chacras
Economics 2017 5 Year
Pablo J. Torrecilla
Solutions to demand-
demand-deficient unemployment

Given that the problem is caused to the low level

of aggregate demand, the government can
intervene to generate an increase in AD through
fiscal or monetary policies.
Possible Actions
Fiscal Policies: Increasing the AD itself (Through an
increase in government spending, or a reduction in
taxes to booster consumption and investment.
Monetary Policies: Through the Central Bank,
decreasing the interest rate to encourage
consumption and investment. Colegio San Jorge Chacras
Economics 2017 5 Year
Pablo J. Torrecilla
Solutions to equilibrium unemployment

Frictional unemployment
Lower or shorter-
shorter-spanned unemployment benefits can
encourage unemployed workers to take up new jobs quicker.
Improving the information flow from potential employers to
people looking for jobs to minimize inter-
inter-jobs lapses.

Seasonal unemployment
Encouraging or facilitating off-
off-season jobs.
Also, as above, lowering unemployment benefits and
facilitating the information flow can help shortening the
unemployment periods.
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Economics 2017 5 Year
Pablo J. Torrecilla
Equilibrium unemployment: Structural unemployment

Structural unemployment
Permanent fall in demand for a particular type of labour.
Occurs as a result of change in the structure of an economy.
Enduring: tends to result in the long-
long-term unemployment of
those affected.
Causes
Technological change: obsolescence of certain types of labour.
Displacement by low-
low-cost competing foreign labour.
Changes in consumption habits.

Colegio San Jorge Chacras

Economics 2017 5 Year
Pablo J. Torrecilla
Equilibrium unemployment: Structural unemployment

Distinction between demand-

demand-deficient and structural
unemployment:
Demand deficient unemployment is caused by an overall
(general, or aggregate) and temporary fall in the demand for
all labour in the economy, as a result of a slow-
slow-down in
economic growth or a recession.
Structural unemployment affects one particular type of labour,
and is, by definition, permanent.

As such, it requires a different set of solutions than

the aggregate (and usually shorter-
shorter-term)
unemployment.
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Economics 2017 5 Year
Pablo J. Torrecilla
Solutions to Structural unemployment

Interventionist Policies
Basic goal: Enhancing of working mobility.
Education: training for occupational flexibility.
Retraining and apprenticeship programs.
Subsidizing of firms that provide training and retraining
programs.
Subsidizing people moving to work-
work-demanding regions.

Disadvantages
Opportunity cost of government spending.
Time frame: Effective only in the long-
long-term. Colegio San Jorge Chacras
Economics 2017 5 Year
Pablo J. Torrecilla
Solutions to Structural unemployment

Market
Market--based: Supply Side Policies
Reduction of unemployment benefits, to encourage the
unemployed to pick up alternative jobs.
Reduction or elimination of labour market regulations would
encourage possible employers to hire new workers (Increase in
labour market flexibility)
Possible undesired consequences
Labour market deregulation tends to worsen working
conditions and contributes to inequity in the economy
(Opposing goals trade-
trade-off: Growth and unemployment vs.
equality in income distribution)
Colegio San Jorge Chacras
Economics 2017 5 Year
Pablo J. Torrecilla
Demand--side or supply side policies to reduce unemployment?
Demand

The applicable solutions depend on the type of

unemployment:
Demand-deficient (economic contraction) -> Demand
Demand-
management policies are suitable.
Equilibrium unemployment (full-
(full-employment level
unemployment) -> Supply side policies are advisable.
The policy-
policy-makers problem:
Fiscal policy costs.
Time frame: Some measures require long time periods to
became effective.
Difficulty in distinguishing the actual type of unemployment,
and the coexistence of different types of unemployment.