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Economics: Theory Through Applications 23-1 This work is licensed under the Creative Commons Attribution-Noncommercial-Share Alike 3.0 Unported License. To view a copy of this license, visit http://creativecommons.org/licenses/by-nc-sa/3.0/or send a letter to Creative Commons, 171 Second Street, Suite 300, San Francisco, California, 94105, USA 23-2 Chapter 23 Jobs in the Macroeconomy 23-3 Learning Objectives • What is the unemployment rate and how is it measured? • What are the differences and the similarities in unemployment rates in the United States and Europe? • If the labor market functions perfectly, what is the rate of unemployment? • How does unemployment arise? • What key features of labor markets does the static model of labor supply and labor demand fail to capture? • What are some of the key facts about worker labor market flows? 23-4 Learning Objectives • What is search theory and how is it useful for understanding labor market outcomes? • What are the efficiency gains from flexible labor markets? • What are the facts about hours worked across countries? • What are the explanations for these differences in hours worked? • What are common forms of government intervention in labor markets? • Why do governments intervene? 23-5 Figure 23.1- Employment Transitions over Your Lifetime 23-6 Unemployment civilian working age population number employed number unemployed number out of the labor force unemployment rate number unemployed civilian labor force employment rate number employed civilianlaborforce 23-7 Figure 23.2 - Unemployment Rates in France, the United States, and the Euro Area, 1985-2011 23-8 Figure 23.3- Labor Market 23-9 Figure 23.4 - Unemployment in the Labor Market 23-10 Inflexible Real Wages real wage nominal wage price level 23-11 Figure 23.5 - Worker Stocks in the U.S. 23-12 Figure 23.6 - Worker Flows in the United States 23-13 Table 23.1 - Output Level per Day in Different Jobs 23-14 Table 23.2 - Revised Output Level per Hour from Assigning Jobs 23-15 Figure 23.7 - Hours in Europe Relative to the United States 23-16 Figure 23.8 - Annual Hours in Various Countries 23-17 Where Do Differences in Hours Worked Come From? Real wage after tax Real wage 1 Tax rate 23-18 Figure 23.9 - Labor Supply 23-19 Figure 23.10 - Differences in Hours Supplied 23-20 Figure 23.11 - Responsive and Unresponsive Labor Supply 23-21 Key Terms • Discouraged worker: A discouraged worker is someone who would like a job, but who has stopped searching and is therefore classified as out of the labor force rather than unemployed • Civilian labor force: The civilian labor force is the sum of the employed and the unemployed individuals • Unemployment rate: The unemployment rate equals the number of unemployed divided by the civilian labor force 23-22 Key Terms • Employment rate: The employment rate equals the number of employed divided by the civilian labor force • Unemployment insurance: Unemployment insurance is a payment from the government to unemployed individuals • Labor market: The labor market is the market which brings together households who supply labor services and firms who demand labor as an input into the production process • Real wage: The real wage is the nominal wage corrected for inflation 23-23 Key Terms • Equilibrium: Equilibrium in a market refers to an equilibrium price and an equilibrium quantity such that supply equals demand at the equilibrium price • Nominal wage: The nominal wage is the wage in dollars paid to workers per unit of time • Price level: The price level is a measure of average prices in the economy • Cyclical unemployment: Cyclical unemployment is the component of unemployment that depends on the business cycle 23-24 Key Terms • Efficiency wages: Efficiency Wages are wages in excess of the equilibrium real wage that are paid by firms in order to provide incentives for their workers to perform their duties • Worker flows: Workers flows depict the movements of workers across the state of employment, unemployment and out of the labor force • Unemployment duration: The duration of unemployment is the amount of time a typical worker spends searching for a new job 23-25 Key Terms • Search theory: Search theory is a framework for understanding the flows of workers across periods of employment and unemployment along with the creation of job vacancies by firms • Comparative advantage: A person has a comparative advantage in the production of one good if the opportunity cost, measured by the lost output of the other good, is lower for that person than for the other • Absolute advantage: A person has an absolute advantage in the production of a good if that person can produce more of that good in a unit of time than the other person 23-26 Key Terms • Frictional unemployment: Frictional unemployment is the unemployment that occurs when workers are moving between jobs • Discounted present value: Discounted present value is a device for measuring flows that occur over time – It tells you the value of something you will receive in the future, discounted back to the present • Natural rate of unemployment: The natural rate of unemployment is defined as the amount of unemployment we expect in an economy that is operating at full employment 23-27 Key Terms • Individual labor supply curve: The individual labor supply curve is drawn on a diagram with the real wage on the vertical axis and the number of hours supplied on the horizontal axis – It tells us how many hours of labor an individual supplies at different values of the real wage • Consumption smoothing: Consumption smoothing is the idea that households like to keep their flow of consumption relatively steady over time, smoothing over income changes 23-28 Key Takeaways • The unemployment rate is the fraction of the civilian labor force looking for a job but currently not employed – The BLS in the United States produces this number on a monthly basis • During the early apart of the 1980s, the unemployment experience in the United States and Europe were very similar – Up until 2008, the unemployment rate in Europe had been significantly higher than the unemployment rate in the United States – Very recently, however, the US unemployment rate climbed to European levels • In a perfectly functioning labor market, the unemployment rate would be zero 23-29 Key Takeaways • Possible explanations of unemployment include rigidities in wages, the market power of unions, and incentive effects • The static model of labor supply and labor demand fails to capture the dynamics nature of worker flows, the processes of creating and destroying jobs and lacks a theory of unemployment • In the United States, labor markets are very fluid. Each month, a significant fraction of workers lose their jobs and each month a significant fraction of unemployed workers find jobs 23-30 Key Takeaways • Search theory provides a framework for understanding the matching of workers and jobs and for wage determination through a bargaining process • The economy is operating efficiently when workers are assigned to jobs based upon comparative advantage – Inflexible labor markets lead to inefficient allocations of workers to jobs and thus to an economy operating below potential output • Average hours worked varies over countries – In the United States, average hours worked are larger than in Europe • One way to explain differences in hours worked is through the higher marginal labor income taxes paid in Europe 23-31 Key Takeaways • Most governments provide workers with unemployment insurance – In many countries, governments also impose costs on firms that fire workers and also restrict hours worked • One rationale for intervention by governments is to provide insurance to workers that is not available in private markets • Governments also take action in an attempt to increase employment rates 23-32