Chapter 11 - Unemployment

This chapter examines how employment and unemployment are measured, the dynamics of the labour market, the three types of unemployment, and the economic and social costs of joblessness.

Key Concepts

• The labour force includes the employed plus the unemployed (actively searching)
• The unemployment rate is never zero due to the dynamic nature of the labour market
• Three types of unemployment: frictional (search time), structural (wage above equilibrium), and cyclical (recession)
• The equilibrium unemployment rate (NAIRU or $U^{\ast }$) is the long-run rate around which the economy fluctuates
• Long-term unemployment (>6 months) has severe individual and societal costs
• Alternative measures reveal “hidden” unemployment among marginally attached and underemployed workers

1. Employment and Unemployment Measures

Determining Who Has a Job

To characterize employment status, we look at the Working-age population (15+, non-military, non-institutionalized).

The Three Categories:

1. Employed:
   • Worked at least 1 hour for pay.
   • Self-employed.
   • Temporary absence (e.g., sick leave, vacation) but still attached to a job.
2. Unemployed:
   • Must be working-age.
   • Not currently working.
   • Actively searching for work.
   • Able to accept a job.
3. Not in the labour force:
   • Retired, in school, unwell, taking care of family, or gave up looking.

Key Metrics and Formulas

Labour Force Calculation: $\text{Labour Force}=\text{Employed}+\text{Unemployed}$

Labour Force Participation Rate: $\text{Labour Force Participation Rate}=\left(\frac{\text{Employed}+\text{Unemployed}}{\text{Working Age Population}}\right)\times 100$

Trends

Women’s participation rose significantly in the 20th century (technology, cultural shifts, control over fertility). Men’s participation declined (education, retirement, and “prime-age” decline due to social/market changes).

The Unemployment Rate:

Exam Alert

$\text{Unemployment Rate}=\left(\frac{\text{Unemployed}}{\text{Labour Force}}\right)\times 100$

• Note: The unemployment rate is never zero; people are constantly flowing in and out of jobs.

Comparisons

• International: Canada generally has higher unemployment than Japan/Germany/UK/USA, but lower than France/Italy/Spain.
• Demographics: Rates vary by education (lower for degree holders), region (higher in Atlantic Canada), age (highest for youth 15-19), and gender.

2. Dynamics of the Labour Market

The labour market is dynamic, similar to a busy restaurant where customers (workers) constantly arrive and leave.

• Flows: In Canada, roughly 300,000 people start a new job and 300,000 leave one every month.
• Sectors: Economies shift over time (e.g., shrinking manufacturing/agriculture vs. expanding healthcare/tech).

Duration of Unemployment

• Short-term: Most unemployment spells are short (back to work within 10 weeks).
• Long-term: Being unemployed >6 months is dangerous. It leads to skill loss, discrimination from employers, and loss of hope.

Alternative Measures (The “Hidden” Unemployment)

The official unemployment rate often understates the issue because it excludes:

1. Marginally Attached: People who want to work but stopped looking.
2. Underemployed: People working part-time who want full-time work.

Observation

The broadest measure of unemployment (including underemployed and attached) is roughly 50% higher than the official rate.

3. Causes of Unemployment

In a simple supply/demand model:

• Labour Supply (Workers): Upward sloping (higher wage = more work supplied).
• Labour Demand (Firms): Downward sloping (higher wage = fewer workers hired).
• Equilibrium: Where Supply = Demand. Theoretically, everyone who wants a job at that wage gets one.

However, unemployment persists due to three types:

A. Frictional Unemployment

TL;DR

Unemployment can never be zero.

The matching process is not instant. It represents an information problem.

• Factor 1: Information availability: How easily can workers find open roles? (LinkedIn vs. newspaper ads). Better info reduces frictional unemployment.
• Factor 2: Skills mismatch: “Sorting socks.” Workers have specific skills; firms have specific needs. Retraining takes time.
• Factor 3: Employment Insurance (EI): Government support reduces the opportunity cost of searching.
  • Effect: Increases duration of unemployment because workers can afford to wait for a “better fit” rather than taking the first bad job available. This can lead to better long-term productivity.

B. Structural Unemployment

Occurs when the wage is stuck above the equilibrium level. At the higher wage, Supply > Demand.

• Efficiency Wages: Paying above market rate to increase productivity and reduce turnover (e.g., Henry Ford paying $5/day).
• Unions: Collective bargaining raises wages/benefits (~15% higher), which may reduce demand for labour in those sectors.
• Job Protection Regulations: Makes it hard to fire. Reduces layoffs but makes firms hesitant to hire (reduces demand).
• Minimum Wage: Sets a price floor. If set above equilibrium, it causes a surplus of labour (unemployment), though research suggests effects are often negligible on overall rates.

C. Cyclical Unemployment

Caused by the business cycle (recessions).

• Occurs when the economy slows down, demand for goods falls, and demand for labour falls consequently.

Normal Rate of Unemployment (NAIRU)

Exam Alert

NAIRU = $U^{\ast }$ Unemployment = $U$ $U^{\ast }>0$ (about 5%)

GDP gaps:

• $Y>Y^{\ast }$, inflationary gap | $U<U^{\ast }$
• $Y<Y^{\ast }$, recessionary gap | $U>U^{\ast }$

4. The Costs of Unemployment

Economic Costs

• Individual: Lower wages upon return (average 1.4 years of earnings lost). “Scarring” effect—employers prefer currently employed candidates.
• Macro: Hysteresis (temporary high unemployment creates permanently higher unemployment).
• Fiscal: Government loses tax revenue and pays out more in social safety nets.

Social Costs

• Isolation, loss of structure, and stress.
• Higher rates of depression, anxiety, divorce, and suicide.
• Intergenerational: Children of laid-off workers suffer worse academic and mental health outcomes and earn less as adults.

Protecting Yourself

1. Savings: Keep 3–6 months of expenses.
2. Network: Build professional connections before you lose your job.
3. Search Strategy: Search while employed. If unemployed, avoid long gaps—take a “good enough” job to avoid being classified as long-term unemployed.

Definitions

Working-age population Those aged 15 or older who are not in the Canadian Armed Forces or institutionalized. There is no upper age limit.

Employed Working-age people who are working (at least one hour for pay, self-employed, or on temporary absence).

Unemployed Working-age people without jobs who are actively searching for work and able to accept a job if offered.

Labour force The sum of the employed plus the unemployed. Represents the population available to produce goods and services.

Not in the labour force Those in the working-age population who are neither employed nor unemployed (e.g., retirees, full-time students, homemakers, those who have stopped looking).

Labour force participation rate The percentage of the working-age population that is either employed or unemployed.

Unemployment rate The percentage of the labour force that is unemployed.

Equilibrium unemployment rate The long-run unemployment rate to which the economy tends to return.

Long-term unemployed People who have been unemployed for six consecutive months or longer.

Marginally attached Someone who wants a job and has looked within the past year but is not currently searching (and thus not counted as unemployed).

Discouraged searcher A marginally attached worker who is not searching because they do not believe jobs are available for them.

Underemployed Someone who has some work but wants more hours, or whose job does not adequately use their skills.

Involuntary part-time Someone who wants full-time work but is working part-time because they cannot find a full-time job.

Frictional unemployment Unemployment due to the time it takes for employers to search for workers and workers to search for jobs.

Structural unemployment Unemployment occurring because wages do not fall to bring labour demand and supply into equilibrium (wage is stuck above equilibrium).

Cyclical unemployment Unemployment due to a temporary downturn in the economy (recession).

Efficiency wage A higher wage paid to encourage greater worker productivity (above market rate).

Hysteresis When a period of high unemployment leads to a higher equilibrium unemployment rate (permanent scarring of the economy).

NAIRU Normal Rate of Unemployment $U^{\ast }$.