>	Econ 100b Created 4/30/1996 Go to Brad De Long's Home Page

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Lecture Four

Understanding Unemployment
(Economics 100b; Spring 1996)

Brad DeLong
Associate Professor of Economics, 601 Evans
University of California
Berkeley, CA 94720
(510) 643-4027 phone (510) 642-6615 fax
delong@econ.berkeley.edu
http://www.j-bradford-delong.net

January 26, 1996

• Cashiers need to be hyper-polite: say sir or ma'am; start from the belief that the customer is always right; take abuse from cranky customers without getting mad; sympathize.
• Cashiers need to follow directions: managers have little patience with people who won't do things their way, quickly, without arguing.
• Cashiers need to have good basic math sense: to figure out--quickly--when the amount of change that the machine is saying you should give this customer is clearly wrong; to be always running sums and differences in their heads to make sure that they have pressed the right buttons.

Now spending twenty years working underground in the highly-skilled, -specialized, and -dangerous occupation of coal mining is not going to predispose you to have the orientation toward people--and the willingness to accept the requisite social role--to be a good cashier.

But better machinery and more efficient mines elsewhere have closed the mines in Britain's north; moving to another part of the country is hard to do--especially because the structure of British local government and housing subsidies means that your housing costs quadruple if you move. And if you don't have the possibility of adding value to a business by working in a mall--if the hassle to the manager and your wage are, together, a bigger cost than is the value of the work you do--it is hard to imagine what you are supposed to do.

You are "structurally" unemployed.

Cyclical Unemployment

Over and above "frictional" and "structural" unemployment, there is "cyclical" unemployment. You can't get a job in your usual line of work. You are pretty sure that your unemployment is the result of slack demand in your particular industry in that year. Switching to another industry would be pointless: by the time you got retrained and found a job, your old employer (or someone similar) would probably be trying to hire you again.

Social balance sheet of types of unemployment:

• Frictional not a social loss--"too little" frictional unemployment would be a social loss. People should spend some time looking for jobs. The value of the "match"
• Structural a social loss, but not fixable through demand-management policy
• Cyclical a social loss

"Frictional," "structural," and "cyclical" as ideal types. They blend into each other:

• Labor force upgrading in a high-pressure economy
• Labor force downgrading in a low-pressure economy

• Highest (annual) unemployment since 1945--10% or so in 1982-1983
• Lowest (annual) unemployment since the end of World War II--2.9% during Korean War
• Lowest (peacetime; annual) unemployment since the end of World War II--3.5% at the end of 1969
• Average unemployment...--approximately 5-6%
• Unemployment by race, sex, and age. Black unemployment roughly double white unemployment; male unemployment used to be lower than female unemployment--but not any more. Teenage unemployment quite high--two to three times "married adult" unemployment.
• Roughly half the unemployed have been unemployed for five weeks or less; roughly 1/7 of the unemployed have been unemployed for six months or more. Things are very different in Europe--typically, in Europe 1/3 of the unemployed will have been without jobs for more than a year...
• Unemployment by education: college-educated have unemployment rates two or more percentage points below the rates of people with just a high school diploma

• Employed
• Unemployed
• Not in the labor force

A person is employed if he or she spent most of the previous week working at a job--as opposed to keeping house, going to school, doing something else, et cetera.

A person is unemployed if they wanted to work during that previous week, but did not--because they were temporarily laid off, because they have been hired but their new job has not yet started, or because they were looking for work but did not find any.

Note that a person who would like to hold a job, but did not look last week because he or she thought that it would be of no use, is not unemployed. Such "discouraged workers" are classified by the BLS as "out of the labor force."

Today the U.S. labor force is--roughly--133 million people, growing at about 1.5 milion people each year. The total population 16 years and older is about 197 million. Roughly two out of three "adults"--people 16 or over--are in the labor force.

Today the unemployment rate is about 5.5 percent. Spurious precision. Probably better to say 5.5 percent + or - 0.3 percent.

• Estimates of state-level unemployment rates have even bigger margins of statistical uncertainty--of sampling error. The California state unemployment rate, for example--now somewhere around 7.5 percent--is really 7.5 percent + or - 1.0 percent.

The Federal Reserve worries when the unemployment rate is 5.5 percent. It is scared that inflation is about to accelerate--that businesses will think that demand is so strong that they have to hire more workers, and can increase prices to pay those workers higher wages. But--so the Federal Reserve thinks, so most of us think--when the unemployment rate is south of 5.5 percent, firms are apt to mistake high aggregate demand for high relative demand for their products--and think erroneously that they can rise prices.

• Hence fear of inflation.

On the other hand, the Federal Reserve has no desire at all to keep unemployment above the sum of "frictional" and "structural" components.

• every one percentage point decrease in the unemployment rate seemed to be associated with a 2-3 percent increase in output relative to the economy's long-run potential growth path.

At first thought, this is kind of odd. A one percentage point decrease in the unemployment rate seems like it ought to be more-or-less a one percent increase in the number of workers. So we would expect output to grow by at most one percent (maybe less if the new workers cannot find sufficient capital goods to boost their productivity up to the level of the previously-employed).

Instead we find--consistently--output growing by 2-3 percent.

The solution?

• When the unemployment rate falls by one percentage point, the labor force rises by about one percent--discouraged workers re-enter the labor force.
• Hence a one percentage point fall in the unemployment rate is associated with approximately a 1.5 percent rise in the number of workers.
• A one percentage point fall in the unemployment rate is associated with an 0.5 percent increase in the length of the average workweek.
• And--perhaps--a one percentage point fall in the unemployment rate is associated with an 0.5 percent increase in average labor productivity. Production processes seem to work more smoothly--less downtime, less waiting around, more efficient use of fixed distributional resources, a whole bunch of things that you can label increasing returns to scale.

Thus a one percentage point fall in unemployment is associated with a 2 percent increase in labor input, and a 2-3 percent increase in production.

This suggests that in a sense our measures of unemployment are wrong:

• People out of the labor force who would be in the labor force if unemployment were lower are, in a very real sense, as "unemployed" as anyone else.
• People who are parttime for economic reasons are partly unemployed.
• Thus a more comprehensive index of unemployment and underemployment would now, today, say that the nationwide unemployment rate is not 5.5% but instead some 10% or so...
• How you evaluate this economic system depends on how seriously you regard these various types of unemployment. You might accept a 5.5% sum of "frictional" and "structural" unemployment as not too bad. But 10% somehow seems much worse...