People are either employed, unemployed or out of the labour
force. The level of unemployment rises when inflows to the pool of
the unemployed exceed outflows. Inflows and outflows are large relative to
the level of unemployment.
As unemployment has risen, the average duration of unemployment has increased.
Women face lower unemployment rates than men. The unemployment rates for old
workers, and especially for young workers, are well above the national average.
Unemployment can be classified as frictional,
structural, classical or demand-deficient. In modern
terminology, the first three types are voluntary unemployment
and the last is involuntary unemployment. The natural
rate of unemployment is the equilibrium level of voluntary unemployment.
In the long run, sustained rises in unemployment must reflect increases
in the natural rate of unemployment. During temporary recessions, Keynesian
unemployment is also important.
Supply-side economics aims to increase equilibrium employment
and potential output, and to reduce the natural rate of unemployment, by operating
on incentives at a microeconomic level. Supply-side policies include reducing
mismatch, reducing union power, tax cuts, reductions in unemployment benefit,
retraining and relocation grants and investment subsidies.
A 1 per cent increase in output is likely to lead to a much smaller reduction
in Keynesian unemployment. Some of the extra output will be met by longer
hours. And as unemployment falls some people, effectively in the labour force
but not registered, look for work again.
Hysteresis means that short-run changes can move the economy
to a different long-run equilibrium. It may explain why European recessions
have raised the natural rate of unemployment substantially.
People voluntarily unemployed reveal that the private benefits from unemployment
exceed the private cost in wages forgone. Society derives no output from transfer
payments to support the unemployed. However, society would not benefit by
driving unemployment to zero. Some social gains in higher productivity are
derived from improved matching of people and jobs that temporary unemployment
allows.
Keynesian unemployment is involuntary and hurts private individuals who
would prefer to be employed. Socially it represents wasted output. Society
may also care about the human misery inflicted by involuntary unemployment.
Most European countries took two decades to reverse the high unemployment
of the 1980s.
