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Chapter 1
Six
The average rate of unemployment around which the economy fluctuates
is called the natural rate of unemployment. The natural rate is the rate
of unemployment toward which the economy gravitates in the
long run.

Chapter 2
Six
• Let’s start with some fundamental equations that will build a
model of labor-force dynamics that shows what determines the
natural rate of unemployment.
 To see what factors determine the unemployment rate, we
assume that the labor force L is fixed and focus on the
transition of individuals in the labor force between
employment E and unemployment U

Using this notation, the rate L=E+U

of unemployment is U/L.
force isiscomposed
Laborforce composed Numberof
Number of
Labor
of
of unemployed
unemployed
Now, we’ll denote the workers
workers
rate of job separation as s. Numberof of
Let f denote the rate of job Number
employed
employed
finding. Together these determine workers
Chapter
Six the rate of unemployment. workers 3
If the unemployment rate is neither rising nor falling—that is, if
the labor market is in a steady state—then the number of people
finding jobs fU must equal the number of people losing jobs sE.
We can write the steady-state condition as

f U=sE
Numberof
Number ofpeople
people Numberof
Number ofpeople
people
findingjobs
finding jobs loosingjobs
loosing jobs

Steady-state unemployment rate

Chapter 4
Six
Any
Anypolicy
policyaimed
aimedatatlowering
loweringthe thenatural
naturalrate
rateofofunemployment
unemployment
must
musteither
eitherreduce
reducethe
therate
rateofofjob
jobseparation
separationororincrease
increasethe
therate
rate
ofofjob
jobfinding.
finding. Similarly,
Similarly,anyanypolicy
policythat
thataffects
affectsthe
therate
rateofof
job
jobseparation
separationororjob
jobfinding
findingalso
alsochanges
changesthethe
natural
naturalrate
rateofofunemployment.
unemployment.

Chapter 5
Six
One reason for unemployment is that it takes time to match workers and jobs.
The unemployment caused by the time it takes workers to search for a
job is called frictional unemployment.
Economists call a change in the composition of demand among
industries or regions a sectoral shift. Because sectoral shifts are
always occurring, and because it takes time for workers to change
sectors, there is always frictional unemployment.

In trying to reduce frictional unemployment, some policies inadvertently

increase the amount of frictional unemployment. One such program is
called unemployment insurance. In this program, workers can collect
a fraction of their wages for a certain period
after losing their job.
Chapter 6
Six
• A situation where individuals work fewer hours than desired,
or their skills and education exceed the requirements of their
current job.
• Occurs in either of:
– when workers want to work more hours but are unable
to find sufficient work opportunities. This is called
time-related underemployment
– when individuals are employed in roles that do not
utilize their qualifications or skills effectively. This is
called skill-related underemployment
• Underemployment can be measured by raising questions
about desired working hours and skill utilization.
• Unlike the unemployment which is captured through labor
force
Chapter
Six
surveys using a strict definition of active job-seeking.
• Informal employment refers to jobs that are not covered
by formal labor laws, social protections, or tax systems.
• Common in developing economies where formal job
opportunities are limited.
• Unemployed individuals often transition to informal
jobs instead of remaining jobless.
• Informal employment provides income but may not
offer stability or social protections, making it difficult to
classify workers as "employed" in a meaningful sense.
• Labor force surveys may underreport informal
activities.
Chapter
Six
Real A second reason for
wage Amount
S unemployment is wage rigidity
of Wage rigidity is the failure of
Unemployment
wages to adjust until labor
supply equals labor demand.
Rigid
real The unemployment resulting
wage from wage rigidity and job
rationing is called structural
unemployment. Workers are
D
unemployed not because they
Labor can’t find a job that best suits
If the real wage is stuck above the their skills, but rather, at the
equilibrium level, then the supply going wage, the supply of labor
of labor exceeds the demand. exceeds the demand. These
Result: unemployment U. workers are simply waiting for
Chapter
Six jobs to become available. 9
 Causes of Real Wage Rigidity

The government causes wage rigidity when it prevents wages from

falling to equilibrium levels.
Many economists and policymakers believe that tax credits are better
than increases in the minimum wage—if the policy goal is to increase the
incomes of the working poor. The earned income
tax credit is an amount that poor working
families are allowed to subtract from the
taxes they owe.

Chapter 10
Six
Economists believe that the minimum wage has
the greatest impact on teenage unemployment.
Studies suggest that a 10-percent increase in the
minimum wage reduces teenage employment by
1 to 3 percent.

An apprenticeship is a classic example of

M
training offered in place of wages.

Chapter 11
Six
Another cause of wage rigidity is the monopoly power of unions.
In the United States, only 18 percent of workers belong to unions. Often,
union contracts set wages above the equilibrium level and allow the
firm to decide how many workers to employ. Result: a decrease in the
number of workers hired, a lower rate of job finding, and an increase
in structural unemployment.
The unemployment caused by unions is an instance of conflict between
different groups of workers—insiders and outsiders. In the United
States, this is solved at the firm level through bargaining.
Chapter 12
Six
Efficiency-wage theories suggest that high wages make workers more
productive. So, though a wage reduction would lower a firm’s wage
bill, it would also lower worker productivity and the firm’s profits.
The first efficiency-wage theory suggests that wages influence attrition.
A second efficiency-wage theory contends that high wages reduce
labor turnover. A third efficiency-wage theory holds that the average
quality of a firm’s workforce depends on the wage it pays its
employees. A fourth efficiency-wage theory holds that a high wage
improves worker effort.

Chapter 13
Six
 The natural rate of unemployment has not been stable.

Below 5%

Over 6%

Below 5%

Chapter 14
Six
 The Rise of European Leisure

The four largest European countries– France, Germany, Italy, and

the United Kingdom– have experienced high levels of unemployment in
recent years. The cause? No one knows for sure, but here is a leading
theory: Many economists believe that the problem can be traced to the
interaction between a long-standing policy and a recent shock. The
long-standing policy is to have generous benefits for the unemployed.
The recent shock was a technologically driven fall in the demand for
unskilled workers relative to skilled workers.
Did you know that Europeans are more likely to be
unemployed that their American counterparts? Europeans
enjoy shorter workweeks and more frequent holidays.
Also, the employment-to-population ratio is higher in the
U.S. than it is in Europe. Also, Europeans retire earlier than
Chapter 15
Six Americans.
 Natural rate of unemployment
Frictional unemployment
Sectoral shift
Unemployment insurance
Wage rigidity
Structural unemployment
Insiders versus outsiders
Efficiency wages
Discouraged workers

Chapter 16
Six