LECTURE #3

THE NATURE AND MEASUREMENTS OF

UNEMPLOYMENT

Compiled by Dr Issa M Hemed

 INTRODUCTION TO UNEMPLOYMENT
 Unemployment is the macroeconomic problem that
affects people most directly and severely.
 For most people, the loss of a job means a reduced
living standard and psychological distress.
 “A man willing to work, and unable to find work, is
perhaps the saddest sight that fortune’s inequality
exhibits under the sun’. Thomas Carlyle

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 UNEMPLOYMENT AND OKUN’S LAW
 What relationship should we expect to find between
unemployment and real GDP?
 Because employed workers help to produce goods and services
and unemployed workers do not, increases in the unemployment
rate should be associated with decreases in real GDP.
 The negative relationship between unemployment and GDP is
called Okun’s law.
 If the unemployment rate remains the same, real GDP grows by
about 3 percent; this normal growth in the production of goods
and services is due to growth in the labour force, capital
accumulation, and technological progress.

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 UNEMPLOYMENT AND OKUN’S LAW
 In addition, for every percentage point the
unemployment rate rises, real GDP growth typically falls
by 2 percent.
 Hence, if the unemployment rate rises from 5 to 7
percent, then real GDP growth would be
 Percentage Change in Real GDP = 3% − 2 × (7% − 5%)
= −1%.
 In this case, Okun’s law says that GDP would fall by 1
percent, indicating that the economy is in a recession.

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UNEMPLOYMENT AND OKUN’S LAW

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 UNEMPLOYMENT
 Employment is the total number of people currently
employed, either full time or part time.
 Unemployment is the number of people who are actively
looking for work but aren’t currently employed.
 In generally; Unemployment means lack of jobs even for
those who are able and willing to work at the prevailing
wage.
 Measurement point of view – the unemployment may be
defined as the gap between the potential “full
employment” and number of employed persons.

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 THE TRANSITION BETWEEN
EMPLOYMENT AND UNEMPLOYMENT

The higher the rate of job separation, the higher

the unemployment rate, the higher the rate of job 7

finding, the lower the unemployment rate.

 FULL EMPLOYMENT
 Full employment is a condition of the national economy, where all
or nearly all persons willing and able to work at the prevailing
wages and working conditions are able to do so.
 Unemployment = Labor force – No. of employed
 The labour force is equal to the sum of employment and
unemployment, i.e. No of people who are currently working and
people who are currently looking for work.
 The unemployment rate is the percentage of the total number of
people in the labour force who are unemployed.

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 THE LIST OF PEOPLES ARE NOT
PART OF LABOUR FORCE.
1. Retired or voluntarily inactive;
2. Performing home duties or caring for children;
3. Attending an educational institution;
4. Experiencing a long-term health condition or
disability;
5. Looking after an ill or disabled person;
6. On a travel, holiday or leisure activity;
7. Working in an unpaid voluntary job; in institutions
(hospitals, jails, sanatoriums, etc.);
8. Permanently unable to work; and 9
 TYPES OF UNEMPLOYMENT
 Unemployment is generally classified into 3 types,
according to the cause of unemployment: frictional,
structural, and cyclical.
 Frictional Unemployment – defined as the number
of unemployed persons under the condition that the
number of job vacancies equals the number of job
seekers who somehow fail to get the job
(unemployed).
 Many people quit or get fired from their job, causing
them to be unemployed temporary.
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 TYPES OF UNEMPLOYMENT
2) Structural Unemployment – arises due to
structural change in dynamic economy making
some workers go out of the job.
 Under structural unemployment, a person either
goes out of the job or remains unemployed for
prolonged period of time till he acquires new
skills.
 Structural unemployment is unemployment that
results when there are more people seeking jobs in
a labour market than there are jobs available at the
current wage rate.
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 TYPES OF UNEMPLOYMENT

There are three causes of this wage rigidity: minimum-wage laws, the monopoly
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power of unions, and efficiency wages.
 TYPES OF UNEMPLOYMENT
 The Effect of a Minimum Wage
on the Labour Market.
 When the government sets a
minimum wage,
 WF, that exceeds the market
equilibrium wage rate, WE, the
number of workers, QS, who
would like to work at that
minimum wage is greater than the
number of workers, QD,
demanded at that wage rate.
 This surplus of labour is
considered structural
unemployment 13
 TYPES OF UNEMPLOYMENT
1) Cyclical Unemployment –is the result of businesses
not having enough demand for labour to employ all
those who are looking for work.
 When business cycles are at their peak, cyclical

unemployment will be low because total economic

output is being maximized.
 When economic output falls, the business cycle is low

and cyclical unemployment will rise.

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 TYPES OF UNEMPLOYMENT
 Seasonal unemployment: Seasonal unemployment
occurs at certain seasons of the year.
 Refers to a situation where a number of persons are
not able to find jobs during some months of the year.
 Natural Unemployment – It is the lowest rate of

unemployment that an economy can sustain over the

long run.

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 TYPES OF UNEMPLOYMENT
 When the economy is said to be at full employment,
it is at its natural rate of unemployment.
 Natural unemployment = Frictional unemployment
+ Structural unemployment.
 Actual unemployment = Natural unemployment +
Cyclical unemployment

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 UNEMPLOYMENT
 The measurements of unemployment can both overstate and
understate the true level of unemployment.
 It can overstate because it counts as unemployed those who are
continuing to search for a job despite having been offered one
(that is, workers who are frictionally unemployed).
 It can understate because it ignores frustrated workers, such as
discouraged workers, because, although they would like work,
they have given up looking for it.
 In addition, the unemployment rate varies greatly among
different groups in the population;
 It is typically higher for younger workers and for workers near
retirement age than for workers in their prime working years.
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 RELATIONSHIP BETWEEN
UNEMPLOYMENT AND INFLATION
 Inflation and unemployment are the twin evils of
macroeconomics and the main concerns of
macroeconomic policy.
 At one time policy marker wants to stabilize price level
for the purpose of control inflation at the other time
needs to control the problem of unemployment.
 Policy makers worry about inflation as well as
unemployment; they are sometimes willing to accept
high unemployment to bring inflation down.

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 NAIRU(NON ACCELERATING INFLATION RATE OF
UNEMPLOYMENT)
 Now economists prefer to talk about the NAIRU, the
lowest rate of unemployment at which inflation does not
accelerate.
 The lowest rate of unemployment at which the jobs market
can be in stable equilibrium.
 When unemployment is above this rate, demand can
potentially be increased to bring it to the natural rate, but
attempting to lower it even further will only cause
inflation to accelerate.

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 The Philips Curve
Wage growth %
(Inflation) The Phillips Curve shows an inverse
relationship between inflation and
unemployment. It suggested that if
governments wanted to reduce
unemployment it had to accept higher
2.5%
inflation as a trade-off.

1.5%

4% 6% PC1 Unemployment (%) 20

 THE PHILIPS CURVE
 The curve crosses the horizontal axis at a positive
value of unemployment. Hence it is not possible to
have zero inflation and zero unemployment
 The concave shape implies that lower the level of
unemployment higher the rate of inflation.
 Govt. should be able to use demand management
policies to take the economy to acceptable levels of
inflation and unemployment.
 In order to achieve full employment, some inflation
is unavoidable.

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 LONG RUN PHILLIPS CURVE:
 To keep unemployment below the natural rate,
inflation must keep on increasing every year.
 In the long run Philips curve will be vertical at the
rate of unemployment where real aggregate demand
equals real aggregate supply.
 This rate is called the natural rate of unemployment.
 It is also called NAIRU or Lowest sustainable
unemployment rate (LSUR).

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 LONG RUN PHILLIPS CURVE:
 To counter the rise in unemployment, government
once again injects resources into the economy – the
result is a short-term fall in unemployment but higher
inflation.
 This higher inflation fuels further expectation of higher
inflation and so the process continues.
 The long run Phillips Curve is vertical at the natural
rate of unemployment.
 This is how economists have explained the movements
in the Phillips Curve and it is termed the Expectations
Augmented Phillips Curve.

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LONG RUN PHILLIPS CURVE:

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 PRACTICAL QUESTION
 The accompanying table provides data on the size of the labour force
and the number of unemployed workers for different regions of the
United States.

a) Calculate the number of workers employed in each of the regions in March

2007 and March 2008.
b) Use your answers to calculate the change in the total number of workers
employed between March 2007 and March 2008.
c) For each region, calculate the growth in the labour force from March 2007
to March 2008. 25

d) Compute unemployment rates in the different regions of the country in

March 2007 and March 2008.
 PRACTICAL QUESTION
Q1, Fill in the empty cells in the above table
January February
Labor Force 140,000 142,000
Employed 130,000 131,000
Unemployed

Unemployment Rate %

Q2, Assume the number of people employed is 100,000 and the

labor force is 500,000. Calculate the unemployment rate based
on this information.
Q3, In December 2012, 143,060 thousand of US residents were
employed and 11,844 thousand were unemployed. Find the
unemployment rate for December 2012.
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 H E
T D
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TH AN K Y O U