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1 Chapter 1 : Job Search General Dynamics JOB SEARCH IN A DYNAMIC ECONOMY The random variable N, the number of offers until R is exceeded, has a geometric distribution with parameter p = 1 - F(R) and expected value 1/p. Thus, the expected duration of search, "frictional unemployment," is an increasing function of the reservation wage. Bureau of Labor Statistics, U. Department of Labor http: During recessions the demand for products and services declines, workers are laid off, and cyclical unemployment increases. The demand for labor is derived from the demand for goods and services. When the demand for goods and services declines then the demand for labor drops as well. Frictional Unemployment - unemployment that results from people entering the labor force or voluntarily moving between careers or locations. Information about available jobs and available workers is imperfect and therefore job search takes time. Seasonal Unemployment - unemployment that results from the normal seasonal change in aggregate economic activity. Cyclical Unemployment - unemployment that results from a decline in aggregate economic activity that occurs during business cycle contractions e. You should recognize that we have not really drawn sharp distinctions between these types of unemployment. A worker may quit one job because it is in a declining industry to look for a better job in a growing industry. Is this frictional or structural unemployment? We suggested that new entrants into the labor force represented frictional unemployment, but during recessions it becomes much harder for new entrants to find jobs. Is this frictional or cyclical unemployment? What is important to realize is that there will always be some level of unemployment that no force in heaven or in Congress can eliminate. Frictional, structural, and seasonal unemployment are three types of unemployment that always exist in an economy and thus prevent the unemployment rate from ever reaching zero. Cyclical unemployment is generally considered the most important and the one on which our macroeconomic models are focused. Congress may act aggressively to stimulate the economy during recessions and lower cyclical unemployment such as through tax cuts or increased government spending. This will be a primary topic of following chapters in this course. Natural Rate of Unemployment Full employment represents the complete utilization of available resources. At full employment an economy would be on its production possibilities frontier. The rate of unemployment that prevails when the economy is at its full-employment level of output is called the natural rate of unemployment. It is very difficult to say exactly what the natural rate of unemployment is. During the s, most economists believed the natural rate was in the 4 to 5 percent range. The reason for changes in frictional and structural unemployment rates over time include changing demographics as mentioned above and changes in minimum wages, racial and sex discrimination, and unemployment benefits among other factors. Because frictional and structural unemployment cannot be directly measured, the natural rate of unemployment is a theoretical concept that is often defined as the rate at which increases in aggregate demand for output lead mostly to higher prices and wages rather than output and employment. Experienced available labor becomes hard to find. If there is an increase in demand for products and services then firms will start to raid labor from other firms by offering higher wages. When paying higher wages firms must increase the price of their product or service. The result is no actual increase in the level of employment or total output but an increase in prices. But we do not have the situation in a microeconomic supply-demand model where an increase in price reduces the quantity demanded. In a macroeconomic model there may be no reason to expect a reduction in demand because wages are rising at the same rate as prices. Therefore, as long as demand remains above the level that can be satisfied at full employment output we can have a sustained period of rising prices, i. Full Employment Output - the level of output at which the labor market is at its natural rate of unemployment. Natural Rate of Unemployment - unemployment arising from frictional, structural, and seasonal unemployment. Also described as the unemployment rate that coexists with macroeconomic stability. Full employment output is also described as the maximum sustainable level of output. Over short periods the economy could be operating above this level and at times below this level. As output fluctuates around the full-employment level of output during a business cycle, the unemployment rate fluctuates around the natural rate. When the economy is in a recession and output is below full employment output, cyclical unemployment is positive. During the Page 1

2 inflationary peak of a business cycle, output could be above the full-employment level and cyclical unemployment is negative. Government Policy and Unemployment While the focus of this course is on the impact government can have on cyclical unemployment, government policy can also influence on the rates of frictional or structural unemployment. For example, the monthly government reports on regional unemployment rates can help workers identify the areas of the country where labor is most needed and make job search more efficient. Publicly funded retraining programs are designed to help workers transition from one industry to another. Such programs hopefully reduce the time needed to find new jobs and thereby lower the frictional and structural unemployment rates. The government policy that is perhaps the most controversial with respect to its effect on structural and cyclical unemployment is unemployment insurance. Workers who are forced to leave their jobs through no fault of their own can collect a fraction of their wages for a certain period after losing their jobs. A typical unemployed worker can receive 50 percent of his or her former wages for 26 weeks. During recessions the government may extend the coverage period because of the greater difficulty in finding new jobs. Workers who voluntarily quit their jobs or who are fired for cause do not qualify. Unemployment benefits certainly reduce the hardship to the individual from being laid off, but they also raise the level of the natural rate of unemployment. Those who receive unemployment benefits may feel less pressure to find a new job. With the unemployment compensation cushion they may turn down some job offers while waiting for something better. Cross-section studies that compare unemployment rates across regions of the country or between different countries generally find that those with more generous unemployment compensation benefits have higher unemployment rates. This is one of many examples we will run across where what is good for the individual may not produce the most desirable measure of aggregate economic performance. Labor Market Model One of the natural starting points for understanding labor markets is the microeconomic model of supply and demand. Labor is a service that is supplied by individuals and demanded by firms. However, we will find that some characteristics of the labor market do not conform to the simple microeconomic model. In particular, the microeconomic equilibrium model does not explain why there can be cyclical unemployment in an economy. We will review a few of the interesting modifications that try to improve the validity of the simple microeconomic model of labor supply and demand. Labor Market Supply and Demand The simple microeconomic labor model balances the supply of labor by individuals against the demand for labor by firms. The trick is recognizing that labor supply and demand are a function of the real wage. What should matter to a worker is not necessarily the size of the paycheck but what the paycheck can buy. If the nominal wage doubles but at the same time the prices of all the goods and services bought with that wage also double then nothing has really changed. For the firm the nominal wage rate is compared with the prices of the product it sells and the cost of other inputs to the production process. Again, if the wage rate doubles but the prices of the product and other inputs i. As the nominal wage rises while the average price level remains steady, the real wage increases. With a constant paycheck but a rising average price level, the real wage declines. The average hourly nominal and real wage for all workers is shown in Figure The real wage is calculated by dividing the nominal wage by the Consumer Price Index. While nominal wages have risen steadily over the last 55 years, the real wage actually declined over the a year period starting in Only in the second half of the s have we seen a recovery. Average Hourly Nominal and Real Wage. The supply of labor is determined by individuals. The supply curve for labor is based on the assumption that as the real wage rate purchasing power increases then individuals would be willing to work more hours and some who were not interested in working may now decide to enter the labor force. With a higher real wage rate individuals are more willing to substitute labor for leisure. The opportunity cost of leisure is higher with a higher real wage rate. The substitution effect of labor for leisure implies the supply curve for labor is upward sloping Figure The higher the real wage rate the more labor is supplied. But there is an offsetting factor. With more real income an individual may now be willing to work less and consume more leisure. With a higher real wage rate you can work fewer hours and still end up ahead. This income effect implies the labor supply curve could be very steep. A higher real wage increases the quantity of labor supplied through the substitution effect but also lowers the quantity of labor supplied through the income effect. The demand for labor is determined by firms. The demand curve for labor is downward sloping Figure for two reasons. First, as nominal wages Page 2

3 fall labor becomes less expensive relative to the prices of goods the firm produces. Firms have an opportunity for greater profits the value of its output minus the costs of production, including labor by hiring more workers and increasing output. Second, as nominal wages fall relative to the cost of capital equipment, firms may substitute workers for capital. Firms may forego purchasing labor-saving automation when labor is less expensive. Thus, the demand curve for labor is downward sloping. As the real wage declines, firms hire more labor. Labor Supply and Demand Model. Equilibrium in the labor market occurs where the aggregate quantity of labor supplied equals the aggregate quantity of labor demanded, i. The equilibrium level of employment corresponds to full-employment output and any unemployment that exists corresponds to only frictional, structural, or seasonal unemployment. The labor market model, just like the product supply-demand model in Chapter 3, suggests that the real wage rate will change if a disequilibrium exists i. For example, if the real wage is above the equilibrium real wage there will be a surplus of labor. There are more willing workers than jobs to fill. Competition for jobs will lead to a lower real wage rate thereby returning the real wage rate to the equilibrium level. Page 3

4 Chapter 2 : EconPapers: Job search in a dynamic economy A Dynamic Analysis of Educational Attainment, Occupational Choices, and Job Search Paul Sullivan Bureau of Labor Statistics June Abstract This paper examines career choices using a dynamic structural model that. They are structural, frictional, and cyclical unemployment. Structural Unemployment Structural Unemployment, one of the three types of unemployment, is associated with the mismatch of jobs and workers due to the lack of skills or simply the wrong area desired for work. Structural unemployment depends on the social needs of the economy and dynamic changes in the economy. For instance,advances in technology and changes in market conditions often turn many skills obsolete; this typically increases the unemployment rate. Similarly, with the rise of computers, many jobs in manual book keeping have been replaced by highly efficient software. Workers who find themselves in this situation find that they need to acquire new skills in order to obtain a new job. Frictional Unemployment Frictional Unemployment is always present in the economy, resulting from temporary transitions made by workers and employers or from workers and employers having inconsistent or incomplete information. This type of unemployment is closely related to structural unemployment due to its dependence on the dynamics of the economy. It is caused because unemployed workers may not always take the first job offer they receive because of the wages and necessary skills. This type of unemployment is also caused by failing firms, poor job performance, or obsolete skills. This may also be caused by workers who will quit their jobs in order to move to different parts of the country. Frictional unemployment can be seen as a transaction cost of trying to find a new job; it is the result of imperfect information on available jobs. For instance, a case of frictional unemployment would be a college student quitting their fast-food restaurant job to get ready to find a job in their field after graduation. Unlike structural unemployment this process would not be long due to skills the college graduate has to offer a potential firm. Cyclical Unemployment Unemployment that is attributed to economic contraction is called cyclical unemployment. The economy has the capacity to create jobs which increases economic growth. Therefore, an expanding economy typically has lower levels of unemployment. On the other hand, according to cyclical unemployment an economy that is in a recession faces higher levels of unemployment. When this happens there are more unemployed workers than job openings due to the breakdown of the economy. This type of unemployment is heavily concentrated on the activity in the economy. To understand this better take a look at our Business Cycles section. Chapter 3 : Economics Jobs and Economist Jobs - theinnatdunvilla.com "Explicit expressions for the reservation wage path and the unemployment duration density in nonstationary job search models," Labour Economics, Elsevier, vol. 2(2), pages, June. Nishimura, Kiyohiko G. & Ozaki, Hiroyuki, Chapter 4 : Department of Labor and Workforce Development Office of Research and Information This paper observes a job search problem on a partially observable Markov chain, which can be considered as an extension of a job search in a dynamic economy in [1]. Chapter 5 : Introduction to Macroeconomics - Unemployment and the Labor Market The job market has improved for black workers in recent years â they still faced a jobless rate of percent in April, the lowest level on record. Chapter 6 : The Fed - What is the lowest level of unemployment that the U.S. economy can sustain? Job hunting in today's economy requires the job seeker to pull out all the stops, take the basics to a new level, and really Page 4

5 work at the mindset and process. These tips and tools can help expedite your search during these challenging economic times. Chapter 7 : Economics Jobs, Employment theinnatdunvilla.com The type of unemployment that economists generally associate with normal growth of the labor force and expanding job opportunities in a dynamic economy is Frictional unemployment. Nancy returns to school to study medicine. Chapter 8 : EconPort - Types of Unemployment There are three main types of unemployment: structural, frictional, and cyclical. The first two make up the natural unemployment rate. The first two make up the natural unemployment rate. The third rises when demand falls, usually during a recession. Chapter 9 : Job search in a dynamic economy Structural unemployment depends on the social needs of the economy and dynamic changes in the economy. For instance,advances in technology and changes in market conditions often turn many skills obsolete; this typically increases the unemployment rate. Page 5