Macro economics

Omer ShahzadMB-12-08

Zeshan Ahmad

MB-12-09M. SaleemMB-12-23

Ali AsgharMB-12-34

Babar ChaudharyMB-12-54


M. SaleemMB-12-23

Ali AsgharMB-12-34


An economic condition marked by the fact that individuals who were actively looking for jobs within the past four weeks still remain unhired, unemployment represents one of the world’s biggest problems. As work plays an important role in every person’s life, unemployment can cause serious problems as many individuals would feel socially excluded, apart from the financial problem.

Unemployment

Who is unemployed?

A person is unemployed if he or she is on temporary layoff , is looking for a job or is waiting for start of new job.

Employed, Unemployed, Not in the Labor Force

Employed: A person is considered employed if he or she has spent most of the previous week working at a paid job.

Unemployed: A person is unemployed if he or she is on temporary layoff, is looking for a job, or is waiting for the start date of a new job.

Not in the Labor Force: A person who fits neither of these categories, such as a full-time student, homemaker, or retiree, is not in the labor force.

Labor force is the sum of employed and unemployed worker

Labor force = number of employed + number of unemployed

Labor forceLabor force

L = E + U

Number of Employedworkers


Number ofUnemployed

workers

Number ofUnemployed

workers

Labor Force

Unemployment rate is the percentage of the labor force that is unemployed:

Unemployment rate = (number of unemployed / labor force) X 100

Unemployment Rate

Natural rate of unemployment

The economy’s natural rate of unemployment refers to the amount of unemployment that the economy normally experiences.

OR

The average rate of unemployment around which the economy fluctuates.

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1955 1960 1965 1970 1975 1980 1985 1990 1995 2000

Per

cen

t o

f lab

or

forc

e

Unemployment rate Natural rate of unemployment

Actual and Natural Rates of Unemployment in the U.S.,1958-2002

Using this notation, the rateof unemployment is U/L.

Now, we’ll denote therate of job separation as s. Let f denote the rate of job finding. Together these determine the rate of unemployment.

The average rate of unemployment around which the economy fluctuatesis called the natural rate of unemployment. The natural rate is the rate

of unemployment toward which the economy gravitates in the long run. Let’s start with some fundamental equations that will build a model of labor-force dynamics that shows what

determines the natural rate.

L = E + U Labor forceLabor force



Number ofUnemployed

workers

Number ofUnemployed

workers

Job loss, Job finding & Natural rate of Unemployment

Labor Force dynamics(Model)

Determine the natural rate of unemployment

Labor Force and Unemployment RateA first model of the natural rate…

Notation:

L = # of workers in labor force

E = # of employed workers

U = # of unemployed

U/L = unemployment rate

Assumptions1. L is exogenously fixed.

2. During any given month,

s = fraction of employed workers that become separated from their jobs,

f = fraction of unemployed workers that find jobs. s = rate of job separations

f = rate of job finding

(both exogenous)

The Transitions between Employment and Unemployment

Employed Unemployed

s E

f U

The Steady State Condition• Definition: The labor market is in steady state, or

long-run equilibrium, if the unemployment rate is constant.

• The steady-state condition is:s E = f U

# of employed people who lose or leave their jobs

# of unemployed people who find jobs

Finding the “EQUILIBRIUM” Unemployment Rate

f U = s E

= s (L –U )

= s L – s U

Solve for U/L:

(f U) + (s U)= s × L

(f + s) U = s L

so, U sL s f

Example:Each month, 1% of employed workers lose their jobs

(s = 0.01)

Each month, 19% of unemployed workers find jobs (f = 0.19)

Find the natural rate of unemployment:

0.010.05, or 5%

0.01 0.19U sL s f

Any policy aimed at lowering the natural rate of unemployment

must either reduce the rate of job separation or increase the rate

of job finding. Similarly, any policy that affects the rate of job

separation or job finding also changes the natural rate of unemployment.

Policy Implication

Zeshan Ahmad

MB-12-09

Why is there Unemployment?• If job finding were instantaneous (f = 1),

then all spells of unemployment would be brief, and the natural rate would be near zero.

• There are two reasons why f < 1:

1. job search

2. wage rigidity

Frictional UnemploymentFrictional unemployment is the time period between jobs when a worker is searching for, or moving from one job to another. It is sometimes called search unemployment.

Frictional unemployment exists because both jobs and workers are heterogeneous, workers have different preferences and abilities and job have different attributes.

Frictional Unemployment occurs when there is a

Shift among Industries\industrial shiftShift among sectors/sectoral shift

Shifting demand of labor among industries and regions called Sectorial shift.

Shift among Industries

When the demand for goods shift due to invention or new thecnology from one indutry to another, it is called shift among industries.

For Example: The invention of personal computers decline the demand of typewriters as well as the demand of labor in typewriter industry.

But at the same time, demand of labor increase in electronic industry.

New Invention

Shift among regionDifferent regions produce different goods in a country. Sometimes, due to some economic factors demand of labor increase in one sector of the country and decrease in another sector of the country, and labor shift from one region to another region.

Some major sectorial shifts occur in the world:Late 1800s: decline of agriculture,

increase in manufacturingLate 1900s: relative decline of manufacturing, increase in service

sector.1970s: energy crisis caused a shift in demand away from gas guzzlers

toward smaller cars.

Structural change over the long run USA

4.2%28.0%

9.9%

57.9%

Chart Title

Agriculture

Manufacturing

Other industry

Services

1960

1.6%17.2%

7.7%

73.5%

Chart Title

2000

Changes in Frictional Unemployment Rate

During Depression During Boom

Frictional Unemployment Frictional UnemploymentDecrease Increase

Effects of Frictional Unemployment

Frictional Unemployment is not as harmful for the economy as other kind of unemployment.

According to some Economists , frictional Unemployment is actually a benefit for the economy .It provide the opportunity for the companies to find the best qualified workers.

Public Policy & Frictional Unemployment

Govt. polices that decrease the frictional unemployment:Provide information about jobs vacancies and workersRetaining programs

Govt. polices that increase the frictional unemployment:Unemployment insurance

Unemployment Insurance

Unemployment Insurance provide 50% of his or her former wage to the unemployed person for 26 weeks.

Unemployment Insurance increase frictional unemployment because it reduce :

It reduce the opportunity cost of being unemployedThe urgency of finding workRate of job finding

Case StudyA study conducted during 1985 for checking the effects of unemployment insurance.

Unemployed workers divied into two group. One group offered $500 Bouns if they find the new job in 11 weeks.

The result shows that Average unemployment period for controlled group was 17 weeks as compared to the 18.3 weeks for other group. It means that bouns decrease the average period of unemployment by 7%.

Study shows that incentive provided by unemployment insurance effects the rate of job finding.

Benefits of Unemployment Insurance

By allowing workers more time to search, UI may lead to better matches between jobs and workers, which would lead to greater productivity and higher incomes.

Unemployment Insurance Benefits

Provided in developed countriesEligibility excludes new entrants to the labor force

and those giving up job voluntarilyRaises aggregate demand and contributes toward

early recovery of an economy from recession


M. SaleemMB-12-23

Why is there Unemployment?

• Two reasons why f < 1:

1. Job search

2. Wage rigidity

U sL s f

DONE Next

The natural rate of unemployment:

Wage rigidity is the failure of wages to adjust to a level at which labor supply equals labor demand.

Real wages bring equilibrium among labor supply and labor demand while wages are kept flexible.

Real Wage Rigidity

Unemployment from Real Wage Rigidity

Labor

Real wage

Supply

Demand

Unemployment

Rigid

real wage

Amount of labor willing to work

Amount of labor hired

If real wage is stuck above its equilibrium level, then there aren’t enough jobs to go around.

Then, firms must ration the scarce jobs among workers.

Then, firms must ration the scarce jobs among workers.

Structural unemployment: The unemployment resulting from real wage rigidity and job rationing.

Structural unemployment: The unemployment resulting from real wage rigidity and job rationing.

Unemployment from Real Wage Rigidity

If real wage is stuck above its equilibrium level, then there aren’t enough jobs to go around.

Reasons for Wage Rigidity

1. Minimum wage laws

2. Labor unions

3. Efficiency wages

The Minimum Wage Law• Government is the basic factor causing wage rigidity as it prevents wages

from falling to equilibrium level. It sets laws which keep a legal minimum on the wages that firms pay their employees.

• The minimum wage may exceed the equilibrium wage of unskilled workers, especially teenagers.

• Studies: a 10% increase in minimum wage reduces teen employment by 1-3%

• Tendency for firms to substitute towards illegal workers (who are not bound by the minimum wage)

• But, the minimum wage cannot explain the majority of the natural rate of unemployment, as most workers’ wages are well above the minimum wage.

The Minimum Wage Law

It is enacted in almost every country so that forces cannot drive it down too low.

When wages are pushed up to the level of w*, unemployment to the extent bc is created, since supply exceeds demand.

In addition, there is also unemployment to the extent of cd, which is due to people looking for better jobs

Labor Market


M. SaleemMB-12-23

Ali AsgharMB-12-34



2. Labor unions

DONE

Next

Labor Unions

Unions exercise monopoly power to secure higher wages for their members (collective bargaining).

When the union wage exceeds the equilibrium wage, unemployment results.

Workers hired Job finding

Structural Unemployment

United States of America 18%Japan 23%Canada 38%United Kingdom 47%Switzerland 53%Spain 68%Norway 75%Portugal 79%Australia 80%Sweden 83%Belgium 90%France 92%Finland 95%Austria 98%

Percent of Workers Covered by Collective Bargaining

Collective Bargaining by Labor Union

Every country legalizes labor union activity to prevent excessive exploitation of labor by the employer

Experiences have shown that if politicization of labor union can be avoided and labor unions abide by the rules of the game then union activities can contribute towards congenial industrial relations

Unemployment caused by Unions

Insiders: Employed union workers whose interest is to keep wages high.

Outsiders: Unemployed non-union workers who would be willing to work for lower wages, so there would be enough jobs for them.

United States of America

•At the level of firm or plant-firm/plant owner playing the main role

Sweden •At the national level-government playing the main role

Methods of Resolving Conflicts



2. Labor unions

3. Efficiency wages

DONE

Next

DONE

Efficiency Wage Theory

High wages make workers more productive

Views of Efficiency wage theory

• Economists have proposed varioustheories to explain how wages affect workers productivity:

Theories of Efficiency Wage

Wages influence nutritionHigh wages reduces labor turnoverLow wages allow best employees to take job

elsewhereHigh wage improves worker effort

These theories share a common theme:

A firm operates more efficiently if it pays its workers a high wage,the firm may find it profitable to keep wages above the level that balances supply and demand.

The result of this higher-than-equilibrium wage is a lower rate of job finding and greater unemployment


M. SaleemMB-12-23

Ali AsgharMB-12-34


Labor Market experience in Europe

Labor Market experience in EuropeUnemployment rate in European countries has risen

substantially e.g.For France & Germany employment rate was 2% in 1960 and recent

rate is more than 10%.

What is the cause of rising unemployment in Europe….???

The problem can b traced by the interaction b/w long standing policy e.g. generous benefits for unemployed workers and a more recent shock e.g. technologically driven fall in the demand of unskilled workers.

The rise in European unemployment

Reasons for unemployment1. Long-term generous programs, For example,

Social Insurance Welfare State

2. Rising demand for skilled workers

3. Labour unions

4. Demand for high wages

REMEDIES

1.Reduce benefit for unemployed

2.Acceptance of low wage jobs

3.Get off the Dole.

EUROPEAN MARKET UNEMPLOYMENT VARIATIONS(OVERVIEW)

Europe is not a single market.it is sum of different markets having difference in Culture Language Traditions Policies & Institutions

These variations provide a useful perspective on the cause of unemployment.(focus is on international difference)

Facts and Differences… Unemployment rate varies from country to country e.g.o In 2008 when U.E rate in U.S was 6.5% then at the same

time it was 2.4% in Switzerland and 11.3% in Spain.

U.E rate has two typeso Unemployed for less then a yearo Unemployed for more then a year

Facts and differences(continued) Long-term U.E rate shows more variability's

from country to county then short-term Policies e.g. U.E is higher in the nation with

more generous U.E insurance etc. Role of unions varies from country to country

Remedies:

The combination of generous payments to the unemployment with assistance at helping them find new jobs.

The role of unions should be revised.

The rise of European Leisure. People in Europe work fewer hours then in U.S.A’s. Typical Americans work many more hours then the

typical residents of western European countries. Europeans retire in early age.

• Difference in work hours reflects two facts:o U.S.A’s do more work per year. Europeans enjoys more

holydays.o More potential workers employed in USA.

Continued…oRole of union in Europe is more stronger in Europe

and it pushes towards shorter working hours.oPreferences: (the main difference) Europeans increase productivity to increase leisure Americans increase productivity to increase

money. They decrease leisure to increase money. Simply, Europeans have more taste for leisure.

Conclusion… Unemployment represents wasted resources. unemployed workers are wasting themselves. People should accept low wage job rather then unemployment Zero unemployment is not possible at all. U.E insurance, the dole, minimum wage law and other programs

that support U.E should be revised again. Govt. should provide assistance and proper training in finding the

job. The policies of labour market have strong effect on the rate of

unemployment these should be choose wisely.

Economy & Finance

Macro economics