Unemployment and the Labor

Market

Tian Xueying, PhD student

Doctoral School of Entrepreneurship and Business, Budapest Business School, Hungary
xueying.tian.62@unibge.hu

5.2.2023
Unemployment-Key Concepts
Labour market flows

Participation rate
the percentage of the
population of working
age declaring themselves
to be in the labour force
Collecting Unemployment Data
• Large surveys of households to compute the unemployment rate

• Unemployed if has been looking for a job in the last four weeks
•
• US current population survey CPS [60,000 households every month]

• UK labour force survey [37,000 households every quarter]

• Do not have a job and not looking for one not counted in the labour force
The Effects of Unemployment

• Direct effect on the welfare of the unemployed, especially those remaining

unemployed for long periods of time

• A signal that the economy is notusing its human resources efficiently

• Very low unemployment can also be a problem as the economy runs into
labour shortages
Unemployment rate, U.S., 1960–2014
Unemployment and Happiness
Changes in the Unemployment Rate versus Growth
in the United States, 1960–2014
Okun’s Law

• Relation first examined by US economist

Arthur Okun

• Growth higher than usual associated with

reduction in unemployment line that best
fits the points downward sloping [-0.4]

• Line crosses horizontal axis at growth 3%

• Growth 3% to keep unemployment constant

Time Frame
 Short run (a few years)
Year-to-year movements in output primarily driven by demand

 Medium run (a decade)

Output determined by supply factors (capital stock, technology, size of labour
force

 Long run (a few decades or more)

Economy depends on innovation, new technologies, how much people
save,quality of education system,quality of government,and so on
Roadmap
What we shall do in this lecture

 We focus on the Medium Run

 How prices and wages determined

 How prices and wages adjust over time-affect output

 How equilibrium wage, unemployment determined in labour

market

The labour market-which determines the supply side of the economy

Movements in Unemployment

When unemployment is high,workers are worse off

 Employed workers-higher probability of losing job

 Unemployed workers-lower probability of finding job

(should expect to remain unemployed for a longer time)
Collective Bargaining

 Sometimes wages set by collective bargaining-a bargaining

between unions and firms

 About 10% of U.S.workers'wages set by collective bargaining

 Higher required skills, bargaining is likely

 Collective bargaining important in Japan and most European

countries
Reservation Wage

 Workers typically paid a wage exceeding their reservation wage

(indifferent between working or being unemployed)

 Wages typically depend on labour-market conditions (lower

unemployment rate,higher wages)

 Workers' bargaining power depends on

 How costly to find other workers
 How hard to find another job if were to quit
Efficiency Wage Theory
 Link productivity of workers to received wage

 Firms pay a wage above the reservation wage (to decrease workers'
turnover and increase productivity)

 Firms that see employee morale and commitment as essential will

pay more than those whose activities are routine

 When unemployment low, firms want to avoid an increase in quits

will increase wages (to induce workers to stay with the firms)
Aggregate Nominal
Wage
W depends on

e
W  P F (u , z )
 

Expected price level

Unemployment rate u
catch-all variable z
Real Wage

 Workers and firms care about real wages , not nominal wages

 W depends on expected price level -not actual P (when W are set,

relevant price levels not yet known)
Unemployment and Wages
 An increase in unemployment rate decreases wages

 Weakens worker “bargaining power”

 Allows firms to pay lower W and still keep workers

 z stands for all factors that affect wages given and u

 Unemployment insurance (benefits) to workers who lose their jobs

 Employment protection - more expensive to lay off workers
Production Function
 Prices set by firms depend on their costs, which in turn depends on
the nature of the production function

 relation between inputs and quantity of output produced

Y=AN

Where Y output, N employment, A labour productivity (output per

worker)
Price and Markup
 Assume A constant [A=1]

Y=N
(cost of producing one more unit of output MC= W)

 Firms set their price according to a markup m over the cost

P=(1 ＋ m)W
Real Wage-Price-Setting
P=(1+m)W

● Inverting both sides-implied real wage (price-setting relation)

W 1

P 1 m
● Price-setting decisions determine the real wage paid by firms
Natural Rate of Unemployment

Unemployment rate
such that the real wage
chosen in wage setting
is equal to the real wage
implied by price setting
Natural Rate of Unemployment

 Wage setting  Price-Setting

W W 1
 F (u , z ) 
P e   P 1 m

● Equilibrium unemployment rate can be derived by eliminating W/P

Natural Rate of Unemployment

1
F (u n , z ) 
  1 m

● natural rate of unemployment

● depends on z(+) and m(+)

Change in z

An increase in
unemployment benefits
leads to an increase in
Change in m

An increase in the
markup leads to an
increase in
Short Run vs. Medium Run

We assumed P equal to

 SR, P may turn out different from what is expected when W are set

 u not necessarily equal to un or output equal to its natural level

 In the medium run, output tends to return to its natural level

(because expectations unlikely to be systematically wrong)
Wage- and Price-Setting Relations

Draw against employment N

Unemployment is the labour force minus

employment U=L-N

Wage-setting relation now upward

sloping (higher employment implies
higher real wage)
Wage- and Price-Setting Relations

The price-setting relation is still a

horizontal line

The equilibrium is given by point A,

with “natural” employment

The price-setting relation looks like a

flat labour-demand relation
Demand for Labour
Supply for Labour
Labour Market Equilibrium
Types of unemployment
• Frictional Unemployment
• Structural Unemployment: When workers’ skills do not match what
jobs are available for (structure of) the current economy.
• Causes of Structural Unemployment:
• New Technology
• New Resources
• Changes in Consumer Demand
• Globalization- Shift to foreign markets
• Lack of Education
 • Seasonal Unemployment: When industries slow or
shut down for a season of the year to make seasonal
shifts in production schedules and people lose their
jobs.
• Examples: When people who sell Halloween
costumes or Christmas trees are out of a job
because the holiday has passed.
Types of
unemployment
Types of unemployment
• Cyclical Unemployment: Unemployment that goes up during times of
economic turmoil, and goes down during times of economic prosperity.
• Examples: A recession causes people to save more and spend less, because of this
companies may slow down production and lay off workers.
Goal: Full employment
• Zero Unemployment is always impossible in a market economy.
• But we strive for Full Employment where no cyclical unemployment exists
in the economy.
• An unemployment rate of about 4-6 percent is normal during full
employment.
Aspects of full employment

• Full Employment means everyone who

wants a job has a job.
• But some of those people may be
Underemployed meaning they are working
at a job below their skillset.
• Example: An individual with a Master’s
degree, unable to find work in their
field, and settling for a job at Publix.
 Aspects of full employment

• Additionally, some people give up trying to

find work, especially during a long recession.
• When people stop looking for jobs and rely
on other means to sustain themselves, they
are considered a Discouraged Worker.
• These people are NOT actively seeking a job
and are therefore not included in the
Unemployment Rate.
• If Underemployed and Discourage Workers
were included in the Unemployment Rate, it
would be much higher.
Thank you!

Q&A