Unemployment

Because of its traumatic effects on those who experience it, unemployment is a matter of widespread concern. Its causes and consequences have been topics of investigation and of controversy in economics, and in psychology and sociology. On some occasions its limitation has been made a policy objective, and on others it has been used as an instrument of policy. Its harm can be mitigated but there is no prospect of its elimination.

Terminology

Economics textbooks sometimes refer to four categories of unemployment:

• frictional unemployment, which happens to people who leave one job to search for another;
• structural unemployment, which happens to people whose skills are no longer needed because of changes in technology or industry structure;
• wage-rigidity-, or classical, unemployment, which happens when wages are maintained at a level at which the demand for labour falls short of its supply; and
• demand-deficient-, or Keynesian, unemployment, which occurs in a recession when the demand for labour falls short of its supply for macroeconomic reasons.
  

None of those categories of unemployment can be defined with any precision for statistical purposes, and the term unemployment can itself be defined for those purposes only by drawing some arbitrary distinctions between unemployment and other forms of under-utilisation of labour. International and national statistical definitions have been published, all of which leave some scope for subjective interpretation.

The unemployment rate is the amount of unemployment expressed as a percentage of the labour force.
A discouraged worker is one who has stopped searching for suitable work because he believes that none is available.
The term full employment is usually defined as a situation in which the number of vacancies exceeds the number unemployed, but it may alternatively be taken to mean the absence of unemployment other than frictional and structural unemployment.
The term natural rate of unemployment usually means the same as non-accelerating-inflation rate of unemployment, but it is sometimes used to mean the unemployment rate that rules when the growth rate of the economy is in line with its long-term rate.
The term hysteresis is sometimes used to refer to a failure of the natural rate of unemployment to return to its former level after a recession.
The Beveridge curve traces the relationship between unemployment and reported vacancies, and the Okun curve traces the effect upon unemployment of a fall in GDP.

The effects of unemployment

Before there was social security protection, the dominant effect of unemployment was physical deprivation. The social consequences of the Great Depression in the United States included acute malnutrition and homelessness. Nowadays, however, the psychological consequences tend to predominate. Recent survey evidence indicates that German workers value the psychological cost of unemploment at as much as three times the associated loss of income. Fear of unemployment is also psychologically harmful, even to the extent of being an important predictor of psychological symptoms. The loss of employment by family wage earners has been found to be particularly burdensome because it cuts deeply into their sense of obligation, their identity, and their status; and unemployment after marriage has been found to increase the incidence of divorce. Physical health may also suffer: unemployed British men have been found to be less healthy than employed men, and to have higher mortality rates. An increase in the duration of unemployment can have increases psychological damage and a long duration may result in a permanent loss of skill

The history of unemployment

Pre-war experience

The earliest well-documented accounts of mass unemployment concern the Great Depression of the 1930s - (the human consequences of which are graphically depicted in John Steibeck's "Grapes of Wrath"). The numerical records of unemployment for that period are based upon administrative records, on the basis of which it has been estimated that 25 per cent of all United States workers - including 37 per cent of its nonfarm workers - became unemployed . Numerical estimates of 19th century mass unemployment are not available but it must be assumed to have been commonplace then, in view of the many recessions that occurred in the United States and elsewhere. Earlier occurrences have also been reported, going back to the 16th century and before.

Recent trends

After the war there was no major mass unemployment until the oil crisis of 1973 - which was followed by a series of recessions that continued through the 1980s and 1990s. Databases of unemployment statistics trace the patterns of unemployed rates by age, gender, age and duration over the past 30 years. Differences among national definitions and collection methods make international comparisons hazardous, but approximate comparisons between internationally harmonised rates are also available. During that period annual unemployment rates in the larger developed economies have topped 10 per cent during recessions and have usually averaged between 3 and 8 per cent in other years. Annual rates as low as 2 per cent have occurred in Japan and Sweden , but have seldom fallen below 3 per cent elsewhere. Youth unemployment rates of over 15 per cent, and sometimes as high as 30 percent, have occurred in developed economies during recessions, and have typically been 2½ to 4 times the average rate for all ages. The percentage of the unemployed that have been out of work for at least a year during the period 2005/8 has varied from around 10 per cent in the united States to over 50 per cent in Germany

The causes of unemployment

According to the prewar consensus, all unemployment (other than frictional unemployment) is voluntary - resulting from refusal to accept employment at the reduced rates of pay that are presumed to be available during recessions. Recessions were themselves deemed to be instruments of progress: for example the Harvard economist, Joseph Schumpeter, advised that "depressions are not simply evils,... but forms of something which has to be done, namely, adjustment to change." , and United States Treasury Secretary, Andrew Mellon, told President Hoover that they serve to "purge the rottenness out of the system".

In the course of the 1940s, however, most economists came to accept the contention of John Maynard Keynes that there could be involuntary unemployment - which, he argued, results from a general fall in demand, brought about by an excess of planned savings over planned investment. As interpteted by his "Keynesian" followers, Keynesian theory became the consensus explanation of unemployment, which was virtually unchallenged until Milton Friedman put forward a rival explanation. Friedman's contention was that temporary - and often protracted - increases above what he termed the natural rate of unemployment were the result of the impact of unanticipated changes in nominal demand on product and labour markets created by shocks to the economy that could come from a variety of sources . In particular, he attributed the Great Depression to reductions in the money supply resulting from policy mistakes by the Federal Reserve Bank .

Labour market flexibility affects the natural rate of unemployment and the rates at which unemployment falls during recession and recovers afterwards. It is influenced in turn by employment protection legislation, and the nature of the socially-implied employment contract. Unemployment compensation may also increase frictional unemployment by reducing the motive for job search and, in the limiting case of the unemployment trap, can cause it to be abandoned. Employment-related taxation is also relevant: the tax wedge contributes to the employment trap and also discourages recruiting

Policy responses

Governments have been known to regard unemployment as an instrument of policy in the control of inflation, but the policy objective has more often been the maintenance of full employment. It was formally adopted as a policy objective in the United States and the United Kingdom in the 1940s. Since then it has been almost universally adopted as an explicit or implicit policy objective. The initial policy response involved the use of fiscal policy to regulate demand, and that gave way in the 1980s to the use of monetary policy to regulate the output gap, but the perceived limitations of monetary policy in face of the Great Recession led in 2009 to a temporary retun to the use of fiscal policy.

The post-war policy response has also included the introduction, or strengthening, of employment protection regulations and provision for the payment of redundancy compensation by employers and unemployment insurance by the state. The effects have been, on the one hand, to lower the human cost of unemployment and reduce its incidence by augmenting the economies' automatic stabilisers; and on the other hand to reduce labour market flexibility and so to raise the natural level of unemployment and increase the impact of recessions. The possibility of improving the balance the between social and material cost of unemployment in the design of labour market institutions is under investigation.