Long-Run and Short-Run Concerns: Growth, Productivity, Unemployment, and Inflation
(Part C)
by
Charles Lamson
 |
The Costs of Unemployment
In the Employment Act 1946, The Congress declared it was the continuing policy and responsibility of the federal government to use all practicable means . . . to promote maximum employment, production, and purchasing power. In 1978, Congress passed the Full Employment and Balanced Growth Act, commonly referred to as the Humphrey-Hawkins Act, which formally established a specific unemployment target of 4 percent. Why should full employment be a policy objective of the federal government? What costs does unemployment impose on society? Some Unemployment is Inevitable Before we discuss the costs of unemployment, we must realize that some unemployment is simply part of the natural workings of the labor market. To be classified as unemployed, a person must be looking for a job. Every year, thousands of people enter the labor force for the first time. Some have dropped out of high school, some are high school or college graduates, and still others are finishing graduate programs. At the same time, new firms are starting up and others are expanding and creating new jobs, while other firms or contracting are going out of business. At any moment, there is a set of job seekers and a set of jobs that must be matched with one another. It is important that the right people end up in the right jobs. The right job for a person will depend on that person's skills, preferences concerning work environment (large firm or small, formal or informal), where the individual lives, and willingness to commute. At the same time, firms want workers who can meet the requirements of the job and grow with the company.  To make a good match, workers must acquire information on job availability, wage rates, location, and work environment. Firms must acquire information on worker availability and skills. Information gathering consumes time and resources. The search may involve travel, interviewing, preparation of a resume, telephone calls, and hours going through the newspaper. To the extent that these efforts lead to a better match of workers and jobs, they are well spent. As long as the gains to firms and workers exceed the costs of search, the result is efficient. When considering the various costs of unemployment it is useful to categorize unemployment into three types:
Frictional and Structural Unemployment When the Bureau of Labor Statistics (BLS) does its survey about working activity for the week containing the twelfth of each month, it interviews many people who are involved in the normal search for work. Some are either entering the labor force or switching jobs. This unemployment is both natural and beneficial for the economy. The portion of unemployment due to the normal working of the labor market is called frictional unemployment. The frictional unemployment rate can never be zero. It may, however, change over time. As jobs become more and more differentiated and the number of required skills increases, matching skills and jobs becomes more complex, and the frictional unemployment rate may rise. The concept of frictional unemployment is somewhat abstract because it is hard to know what "the normal working of the labor market" means. The industrial structure of the U.S. economy is continually changing. Manufacturing, for instance, has yielded part of its share of total employment to services and to finance, insurance, and real estate. Within the manufacturing sector, the steel and textiles industries have contracted sharply, while high technology sectors, such as electronic components, have expanded.  Although the unemployment that arises from such structural shifts could be classified as frictional, it is usually called structural unemployment. The term frictional unemployment is used to denote short-run job/skill matching problems, problems that last a few weeks. Structural unemployment denotes longer run adjustment problems---those that tend to last 4 years. Although structural unemployment is expected in a dynamic economy, it is painful to the workers who experience it. In some ways, those who lose their jobs because their skills are obsolete are the ones who experience the greatest pain. The fact that structural unemployment is natural and inevitable does not mean it costs society nothing. Economists sometimes use the phrase natural rate of unemployment to refer to unemployment that occurs as a normal part of the functioning of the economy. This concept is also somewhat vague, because "natural" is not a precise word. It is probably best to think of the natural rate as the sum of the frictional rate and the structural rate. Estimates of the natural rate range from 4 percent to 6 percent. Cyclical Unemployment and Lost Output Although some unemployment is natural, there are times when the unemployment rate seems to be above the natural rate. In 1979, the unemployment rate was 5.8 percent, but it did not fall below 6 percent again until 1987, eight years later. In the meantime, the United States experienced a major recession, during which the unemployment rate rose substantially. The increase in unemployment that occurs during recessions and depressions is called cyclical unemployment. In one sense, an increase in unemployment during a recession is simply a manifestation of a more fundamental problem. The basic problem is that firms are producing less. A recession entails a decline in real GDP, or real output. When firms cut back and produce less, they employ fewer workers and less capital. Thus, the first and most direct cost of a recession is the loss of real goods and services that otherwise would have been produced.  Never was the loss of output more dramatic than during the Great Depression. Real output fell about 27 percent between 1929 and 1933. It is, of course, the real output of the economy that matters most---the food we eat, the medical care we get, the cars we drive, the movies we watch, the new houses that are built, the pots we cook in, and the education we receive. When output falls by 27 percent, life changes for a lot of people. During the recession of 1980-1982, the growth rate of real GDP was on average roughly zero. Had real GDP grown at 3 percent each year from 1979, the total growth in output in the 1980-1982 period would have been about 9 percent instead of the 0.1 percent that actually occurred. This is a substantial loss of output and consequently income. Social Consequences The costs of recessions and depressions are neither evenly distributed across the population nor easily quantified. The social consequences of the depression of the 1930s are perhaps the hardest to comprehend. Few emerged from this period unscathed. At the bottom were the poor and the fully unemployed, about 25 percent of the labor force. Even those who kept their jobs found themselves working part time. Many people lost all or part of their savings as the stock market crashed and thousands of banks failed. Congressional committees heard story after story. In Cincinnati, where the labor force totaled about 200,000, about 48,000 were wholly unemployed, 40,000 more were on short time, and relief payments to the needy averaged $7 to $8 per week: Relief is given to a family 1 week and then they are pushed off for a week in the hope that somehow or other the breadwinner may find some kind of work. . . . We are paying no rent at all. That, of course, is a very difficult problem because we are continually having evictions, and social workers are hard put to find places for people whose furniture has been put out on the street.  From Birmingham, Alabama, in 1932: . . . we have about 108,000 wage and salary workers in my district. Of that number, it is my belief that not exceeding 8,000 have their normal incomes. At least 25,000 men are all together without work. Some of them have not had a stroke of work for more than 12 months. Perhaps 60,000 or 70,000 are working from one to five days a week, and practically all have had serious cuts in wages and many of them do not average over $1.50 per day. Economic hardship accompanied the recent recessions as well. Between 1979 and 1983, the number of people officially classified as living in poverty in the United States rose from 26.1 million (11.7 percent of the population) to 35.5 million (15.3 percent). In addition to economic hardship, prolonged unemployment may also bring with it social and personal ills: anxiety, depression, deterioration of physical and psychological health, drug abuse (including alcoholism), and suicide. The Benefits of Recessions Do recessions have any benefits? Yes: recessions are likely to slow the rate of inflation. There have been two serious inflationary periods since 1970: 1974-1975 and 1979-1981. Each was followed by a recession during which the rate of inflation decreased. As Table 6 shows the inflation fell from a 1974 rate of 11.0 percent to 5.8 percent in 1976. In 1983, the inflation rate also fell, to 3.2 percent, from a 1980 rate of 13.5 percent. TABLE 6  It appears recessions do help to counteract inflation, but more analysis is needed before we can understand why (see upcoming posts). The point here is: recessions may help to reduce inflation.  Some argue recessions may increase efficiency by driving the least efficient firms in the economy out of business and forcing surviving firms to trim waste and manage their resources better. As we will discuss in a future post; a recession leads to a decrease in the demand for imports, which improves our nation's balance of payments---that is, its record of trade with other countries. *CASE & FAIR, 2004, PRINCIPLES OF ECONOMICS, 7TH ED., PP. 418-422* end |
No comments:
Post a Comment