Chapter 17 Low unemployment

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IB econ


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Low Unemployment IB Economics:

Low Unemployment IB Economics


What is unemployment? The labour force is essentially the economically active population Legal ages to start work and to retire vary with countries Those not part of the work force children Students Stay at home parents Retired people Those who choose not to work Those who cannot work (e.g. disabled) It is surprisingly difficult to measure the size of the labour force and the unemployed Every country has its own system Information is gathered from national censuses and surveys as well as unemployment insurance records and social security information Unemployment – people of working age who are without work, available for work and actively seeking employment Unemployment rate – number of people unemployed expressed as a percentage of the total labour force


Hidden unemployment One reason for the difficulty in measurement is hidden unemployment Examples People who have been unemployed for a long time and given up People who have part time work but would like to be working full time People who are working in jobs for which they are greatly over qualified If the unemployment rate is low it would appear that this economy is doing well but there could still be room for improvement


Distribution of unemployment The national unemployment rate is only the average for the whole country It does not show inequalities among different groups within an economy Geographical – UK higher in the north Age disparities – youth very high in Europe Ethnic disparities due to lack of opportunities or prejudice Gender disparities – unemployment among women tends to be higher in many industrialised countries


Cost of unemployment The reason that unemployment is such an important macro objective is that it poses a great cost (mainly with long term unemployment) Costs to the people themselves low income (benefits) means a lower standard of living for them and their families High levels of stress, anxiety and depression High levels of divorce and suicide Costs to society High levels of unemployment in particular areas can be seen in the forms of poverty, homelessness, high rates of crime and increased gang activities Costs to the economy as a whole Operating at a point within the production possibility curve Opportunity cost of government benefits Less income tax, less consumption, less indirect tax More government spending on fixing social problems


Movements in and out of the pool of unemployment affect the supply of labour in an economy at any time. This, and the demand for labour will determine the level of employment and unemployment in an economy


The labour market AS L - The aggregate supply for labour – the total number of an economy ’ s workers that are willing and able to work in the economy at every given average wage rate AD L - The aggregate demand for labour – the total demand for labour (by all firms in the economy) at every given average wage rate Slopes downwards because as wages decrease firms will be demand more Slopes upwards because as wages increase workers will be willing to work Remember that demand for labour in an economy is dependent on demand for goods and services (aggregate demand)


Causes of unemployment – Disequilibrium unemployment This happens when there are any conditions that prevent the labour market from clearing (reaching equilibrium Real Wage Unemployment – trade unions negotiate or government implements minimum wage - this pushes up wage rates and interfering with the labour market At the higher wage more people are willing and able to supply themselves to the labour market but less firms are willing and able to demand – there is surplus of labour (unemployment) Unemployment is Q2-Q1 or a-b


Solutions to real wage unemployment By making changes to legislation government could reduce the power of trade unions If the minimum wage is preventing the market from clearing then it should be reduced Evaluation It is difficult to reduce union power This may harm the poorest workers High income workers don ’ t receive the minimum wage Reducing the living standards of low income workers – inequitable (unfair)


Causes of unemployment – Demand deficient or cyclical unemployment (also called Keynesian unemployment) As the economy moves into a period of slower or negative growth AD falls (AD1 shifts to AD2) Less goods and services are demanded (Y1 to Y2) Labour is a derived demand Less labour is required to make the goods and services (ADL to ADL 1 ) Wages should reduce to W1 but wages are ‘ sticky downwards ’ The aggregate supply of labour at We is higher than aggregate demand leading to unemployment of a-b (or Qe-Q1) unemployment


Solutions to demand deficient unemployment This is caused by low AD Need to increase AD Any policy that increases AD should solve the problem (Keynesian demand management policies) Monetary policy – reduce interest rates or increase money supply Fiscal policy – Government spends more or reduces income tax or indirect taxation Evaluation All of these things take time Unemployment is a lagging indicator


Causes of unemployment – Equilibrium unemployment (natural unemployment) Theoretically the labour market may be in equilibrium with no demand deficient or real wage unemployment but there is still unemployment This is voluntary unemployment There may be jobs available but people are not willing to take them They may not have the skills They may not want to accept the wage They may not be aware of the jobs They are either unable or unwilling to take the available jobs At higher wages the gap becomes smaller (more people are willing to take the jobs) unemployment


Types of natural employment – Frictional unemployment This is when people are between jobs or they have left education and are waiting for their first job It is not normally seen as a serious problem Solutions Unemployment benefits should not be at a level that removes the incentive to work If unemployment benefits were reduced unemployed workers might become more willing to work (shift the aggregate supply of labour to the right) Improve awareness of available jobs


Types of natural employment – Seasonal unemployment Demand for certain workers falls at certain times of the year Examples Tourism industry Farming Solutions? Encourage people to take different jobs in their off season Reduce unemployment benefits Greater flow of information


Types of natural employment – Structural unemployment This is the worst type of equilibrium unemployment It happens due to the changing structure of an economy One reason why it is so harmful is that it tends to result in long term unemployment People who lose their jobs in one area lack the necessary skills to take on the newly created jobs – occupational immobility If there are other jobs in other parts of the country but people are not willing or able to move this is geographical immobility Different causes New technologies replace humans Demand for a particular type of labour - lower cost labour in other countries Changes in consumer tastes – e.g. environmentally friendly types of energy Structural unemployment occurs when there is a permanent fall in demand for a particular type of labour e.g. coal mining


Solutions – Structural unemployment – interventionist policies The key is to increase occupational mobility (allow workers to move from job to job) An education system that trains people to be more occupationally flexible Adult retraining programmes Government gives subsidies to firms that provide training for workers Enhance geographic mobility by building affordable housing or give subsidies/tax breaks Set up apprenticeship programmes to allow people to gain skills Disadvantages Involve a high opportunity cost These policies are only effective in the long term


Solutions – Structural unemployment – market based/free market supply side policies Reduce unemployment benefits to give unemployed people to take available jobs Reduce labour market regulations which increase labour market flexibility E.g. regulations about hiring and firing – if it is difficult for a firm to get rid of labourers that do not work well they will not take on people Evaluation People that lose benefits will have lower living standards (increasing inequity) Labour market regulations are in place to protect workers from unfair treatment and guarantee working conditions Unemployment might fall but there may be a high cost to the workers themselves.


Are demand-side policies or supply side policies more effective in reducing unemployment? The answer is …it depends on what type of unemployment If it is demand deficient then demand side policies will be required Create demand and firms will demand more labour Evaluation - There are concerns with using these policies Expansionary fiscal policy - means spending more or taxing less Either may mean running a budget deficit (spending more than taking in from revenues) This may not be a problem in the short run but could be in the longer run When lowering tax there is no guarantee that people will spend their additional disposable income if confidence is low


Are demand-side policies or supply side policies more effective in reducing unemployment? More evaluation Even if the reduction in taxes worked there would be a lag before it came into effect By the time it worked the economy could have recovered and the extra AD would be inflationary With structural unemployment supply side policies may be better such as making sure labour is suitably skilled and flexible In practice it is difficult to distinguish between different types of unemployment The economy will likely be suffering from different types at the same time Governments are likely to need a combination of both


Fiscal policy – discretionary policy versus automatic stabilizers Stabilisers automatically increase when the economy is going into a recession Stabilisers automatically fall when national income begins to rise (recovery/boom) Government spending and taxation are both automatic stabilisers When the economy goes into recession unemployment will rise Government spending (on benefits) increases Disposable income is not affected so much and AD falls less than it would have done Tax revenues fall at a higher rate than the fall in income (tax rates tend to be higher on marginal income than on average income) Automatic or built-in stabilisers – mechanisms which reduce the impact of changes in the economy on national income spending Taxation Discretionary fiscal policy is when the government deliberately manipulates AD


Automatic stabilisers An example to show you how the tax falls at a faster rate than the fall in income A worker paid on commission sells less in a recession Her tax rate might fall from 40% to 20% If household spending has to be cut then it is more likely to be on consumer durables taxed at 20% VAT than zero rated goods such as food With the government collecting les tax disposable incomes are higher and consumption is at a higher level that it would be without the stabiliser Automatic or built-in stabilisers – mechanisms which reduce the impact of changes in the economy on national income


Automatic stabilisers When the economy goes into a boom unemployment decreases Government spending falls as the benefits fall automatically Tax revenue increases at a faster rate than income An unemployed person will pay very little tax Once they get jobs they start to pay substantial amounts of direct and indirect tax AD is lower than it would otherwise be with these automatic stabilisers Automatic stabilisers are seen as important measure so controlling fluctuating economic activity Since they automatically operate to increase AD when there is a slowdown they are not influenced by political decision making They are also not subject to time lags Automatic or built-in stabilisers – mechanisms which reduce the impact of changes in the economy on national income Boom Benefits Fall Tax Revenue Increases


Crowding out Some economists say that there is a problem with government running budget deficits called ‘ crowding out ’ To spend government has to borrow They sell bonds to financial institutions who then sell them on to people who want to save their money By borrowing they push up the interest rates When interest rates increase investment (I) falls There is plenty of argument for and against Keynesians say that it will not occur if the economy is producing at less than full employment New classical economists (who are against demand management policies) say it is a significant problem.


Time for you to do some work!! Plan Q 1 a and b on page 220 Next lesson to write under timed conditions Research unemployment in your allocated country Perfect 10! Definition Diagram Analysis Example Perfect 15! New Definition More developed diagram/s Argument for and against with evidence Judgement


Memory Challenge What ’ s Macro all about?


Several key terms will appear They will disappear after 30 seconds (do not write anything in this time) Your task: (1)List the terms + (2) Define them (8 mins to get as many as possible)


Inflation Demand Deficient Unemployment Multiplier Disequilibrium Unemployment Recession Balance of payments surplus Real GDP Trend Growth Slump AD Identity Disposable income Actual growth Aggregate Supply


Over to you!


Do you remember what you learned last time? Draw diagrams for Disequilibrium/Real Wage unemployment What causes it? How can it be fixed? Demand Deficient unemployment What causes it? How can it be fixed? Wages


Do you remember what you learned last time? Draw a diagram for Natural unemployment What are the different types? Frictional, seasonal, structural How can it be fixed? Are demand side or supply side policies better to fix unemployment? What is the difference between an interventionist policy and a market based policy? Wages unemployment

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