The Medium RunThe Medium Run

United States - 2006

A Tour of the Labor Market

The noninstitutional civilian population is the number of people potentially available for civilian employment.

The civilian labor force is the sum of those either working or looking for work.

Those who are neither working nor looking for work are out of the labor force.

The participation rate is the ratio of the labor force to the noninstitutional civilian population.

The unemployment rate is the ratio of the unemployed to the labor force.

U.S. Participation Rate

U.S. Participation Rate

Participation Rates

The Large Flows of Workers

On the extremes, the unemployment rate may reflect two very different realities:– An active labor market, with many separations and many

hires (very short duration of unemployment)– A sclerotic labor market, with few separations, few hires,

and a stagnant unemployment pool (long expected duration of unemployment)

The Flows of Workers

The Flows of Workers

The flows in and out of unemployment are The flows in and out of unemployment are large in relation to the number of large in relation to the number of unemployed.unemployed. The The average duration of unemploymentaverage duration of unemployment

was less than three months (2000) and is was less than three months (2000) and is higher now.higher now.

Movements inUnemployment

Fluctuations in the aggregate unemployment rate affect:– The welfare of the unemployed– Wages of those employed– Higher layoffs = higher risk of losing their Higher layoffs = higher risk of losing their

jobsjobs– A decrease in hires = more difficult to find A decrease in hires = more difficult to find

jobsjobs

Movements in UnemploymentU.S.Unemployment Rate by Race, 1960-2003

Movements in UnemploymentUnemployment Rate in Europe, 1960-2003

U.S. production and employment 2000-2003

Other Labor Market Issues

How many employed are working part-time only? How many of those want to work full time?

How many are employed as temporary workers (temps)?

Do temps (and others) have any job security? Do they want job security?

Nominal vs. real wages. Other benefits.

Outsourcing and Insourcing

Wages

Real wages in different countries are….different.

Wage Determination

Common forces at work in the Common forces at work in the determination of wages (within a determination of wages (within a specific labor market) include:specific labor market) include: A tendency for the wage to exceed the A tendency for the wage to exceed the

reservation wage,reservation wage, or the wage that make or the wage that make them indifferent between working or them indifferent between working or becoming unemployed.becoming unemployed.

Dependency of wages on labor-market Dependency of wages on labor-market and firm-specific conditions.and firm-specific conditions.

Individual Bargaining

How much bargaining power a worker has depends on:1. How costly it would be for the firm to replace

him—the nature of the job.

2. How hard it would be for him to find another job—labor market conditions.

Efficiency Wages

Efficiency wage theories - link the productivity or the efficiency of workers to the wage they are paid.

These theories also suggest that wages depend on both the nature of the job and on labor-market conditions.

Wages, Prices, and Unemployment

The aggregate nominal wage, W, depends on three factors:

1. The expected price level, Pe

2. The unemployment rate, u

3. A catchall variable, z, that catches all other variables that may affect the worker’s bargaining position (labor market conditions).

W P F u ze ( , )( , )

Wages, Prices, and Unemployment

1. Both workers and firms care about real wages (W/P), not nominal wages (W).

2. Higher unemployment weakens workers’ bargaining power.

3. Safety nets:1. Unemployment insurance

2. Minimum wages

3. Employment protection

Price Determination

The production function is the relation between the inputs used in production and the quantity of output produced.

Assuming that firms produce goods using only labor, the simplest production function can be written as:

Y A NYY = output = outputNN = employment = employmentAA = = labor productivity,labor productivity, or output per worker or output per worker

Price Determination

Firms set their price according to:

P W ( )1 The term The term is the is the markupmarkup of the price over the of the price over the cost of production. If all markets were perfectly cost of production. If all markets were perfectly competitive, competitive, = 0, and = 0, and PP = = WW..

The Natural Rate of Unemployment

This section looks at the implications of wage and price determination for unemployment.

We assume that Pe = P, and that nominal wages depends on the actual price level, P, rather than on the expected price level, Pe.

Wage setting and price setting determine the equilibrium rate of unemployment.

The Wage-Setting Relation

Earlier, we stated that the nominal wage rate was determined as follows:

W P F u ze ( , )( , )

W

PF u z ( , )

( , )

W P F u z ( , )

Dividing both sides by Dividing both sides by PP, then:, then:

The wage-setting relation

The Price-Setting Relation

The price-determination equation is:

P W ( )1

P

W ( )1

To state this equation in terms of the To state this equation in terms of the wage rate, we invert both sides:wage rate, we invert both sides:

W

P

1

1( )The price-setting

relation

Equilibrium Real Wagesand Unemployment

F u zn( , ) 1

1

Equilibrium Real Wages and Unemployment

An increase in unemployment benefits leads to an increase in the natural rate of unemployment.

Equilibrium Real Wagesand Unemployment

An increase in markups decreases the real wage, and leads to an increase in the natural rate of unemployment.

The Price of Oil

From Employment to Output

Associated with the natural level of employment is a natural level of output, (and since Y=N, then,)

Y N L un n n ( )1

The natural level of output satisfies the following:The natural level of output satisfies the following:

FY

Lzn1

1

1

,

The Natural Rate of Unemployment

The Natural Rate of Output