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Goethe Business School Chapter V: Growth and Employment A.Accounting for Growth B.Efficiency of Labor C.Solow model and interpretation D.The labor market.

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Presentation on theme: "Goethe Business School Chapter V: Growth and Employment A.Accounting for Growth B.Efficiency of Labor C.Solow model and interpretation D.The labor market."— Presentation transcript:

1 Goethe Business School Chapter V: Growth and Employment A.Accounting for Growth B.Efficiency of Labor C.Solow model and interpretation D.The labor market E.Real wages F.Population and migration

2 Goethe Business School 2 Labor market equilibrium  According to the macro analogue of microeconomic analysis, equilibrium is established through the real wage bringing labor supply and demand in line  This analogue is fallacious though, because labor markets are heavily regulated, which could entail market disequilibria  As a benchmark, the labor market equilibrium concept is useful however

3 Goethe Business School 3 Decomposing employment  Let’s look at some specific elements of the labor market  Total hours worked per population can be decomposed as follows:

4 Goethe Business School 4 Trends in hours worked per capita

5 Goethe Business School 5 Measuring unemployment  Measuring unemployment is tricky and far from uniform throughout the world  An unemployed person must be  In employment age and capable to work  Willing to work at the going wage, everywhere  Willing to retrain where skills do not match demand  Part-time and multiple jobs add to complexities  Workers might be discouraged and leave the labor force  Workers could become “self-employed”  Unemployment is linked to “labor participation”

6 Goethe Business School 6 Standardized unemployment rates Source: OECD

7 Goethe Business School Growth and unemployment in the European Union 7

8 Goethe Business School 8 Labor market movements Source: Thomas Rothe, IAB

9 Goethe Business School 9 Definition of “natural unemployment”  N is the size of the labor force, L is the number of employed, and U the number of unemployed  The ratio of hiring is h, and the ratio of firing f  In a dynamic equilibrium (steady state) the following must hold h×U = f×L or h×U = f×(N-U).  And

10 Goethe Business School 10 Example: Consider the following example:  We assume that 2 percent of the employed lose their job every month (average job duration = 4 years)  20 percent of the unemployed find a new job (average duration of unemployment = 5 months)  Then the “natural unemployment rate” is [0.02] / [0.02 + 0.20] = 0.0909 (or 9.1%).

11 Goethe Business School 11 NRU and economic policy  You can reduce the NRU only by reducing f or increasing h  But f and h are “behavioral” parameters of the private sector  Economic policy can create incentives, but the incentive structure is highly complex  We discuss two policies:  Employment protection regulation (EPL) to reduce f  State employment and wage subsidization to increase h

12 Goethe Business School 12 Example: EPL  Protection against dismissal (extreme f = 0 ) can drive firms into bankruptcy (respectively Chapter 11 in the United States)  Moreover such costs are anticipated by firms and “capitalized”, i.e. wage levels are lower  It could lead to a reduction of hiring new labor force, combined with overtime of existing staff  It could also explain the high incidence of temporary work in some countries  EPL does not necessarily entail a psychology of job security

13 Goethe Business School 13 Unemployment insurance  Insurance against unemployment is more effective in providing subjective job security  It is effective to combat cyclical unemployment  Where there is substantial structural unemployment, unemployment insurance adds to non-wage labor costs, and the scheme may become unsustainable over time  Moreover, unemployment insurance could entail “moral hazard”

14 Goethe Business School 14 State intervention  Government can increase h by hiring people in the public sector  It can also subsidize wages in the private sector  In both instances the financing of government programs has to be skimmed off production  I may entail negative incentives and distort wages  Financing such measures through government borrowing is not sustainable over time

15 Goethe Business School 15 Real wages  Real wages equal marginal productivity in theory, but they also depend on the supply for labor function in market equilibrium  In practice however total factor productivity is often apportioned independently from the labor supply function  We shall look at two extreme cases  The market for unskilled labor  The market for highly skilled labor

16 Goethe Business School 16 Unskilled labor: A historical review W/P = real wage Hours worked Subsistence level Marx’s “Industrial reserve army” H*H* Labor demand F. Lassalle 1825-64

17 Goethe Business School 17 Unskilled labor and the wage rate  As long as the supply for labor function is flat, increases in the productivity of labor do not filter into the wage rate, but have a pure employment (quantity) effect  Conversely, if the supply for labor is scarce, as for highly qualified and specialized labor, any productivity increase is fully reflected in the real wage

18 Goethe Business School 18  In the “Third World” there is typically a “dual” labor market characterized by  A limited supply of qualified workers, who are also often well organized  A large number of unskilled workers less well organized  Arbitrage between the two markets is virtually impossible  It produces significant wage differentials “Dual” labor market

19 Goethe Business School 19 “Dual” labor market and increase in productivity (W/P) 1 L1L1 (W/P) 2 L2L2 Wage differenettial LsLs L s constant As productivity increases, the wage differential becomes larger

20 Goethe Business School 20 Productivity increase and “trickling down”  Total factor productivity has increased tremendously in industrialized countries  And less skilled labor was not “left behind”  Productivity increase has “trickled down” to all wage categories, not just the most productive  An important factor was broad compulsory education and participation in training  Another factor was “organizing labor” (and social policies)

21 Goethe Business School 21 Dependency between skills and employment Source: OECD

22 Goethe Business School 22 Organizing labor  Obviously, the market mechanism creates inequality, which may lead to social tensions  Almost all countries attempt to counter its effects  The instrument is the standardized work contract and collective bargaining  It attempts to allocate total factor productivity among various groups of skill in a “fair” manner  All wage groups are tied together in fixed relativities, wages are negotiated collectively, and productivity increases distributed evenly

23 Goethe Business School 23 Collective bargaining and labor union density Source: OECD

24 Goethe Business School 24 Collective bargaining and “sticky” wages  Collective bargaining introduces an element of “stickiness” in wage setting  For most, wages are reasonably in line with productivity, for others they may be too high or too low  If they are too high, this tends to create unemployment  If they are too low, qualified people could migrate

25 Goethe Business School 25 “Minimum” wages and unemployment L W/P “Sticky” real wage Labor demand Labor supply Unemployment

26 Goethe Business School 26 “Efficiency wages”  The theory is based on the hypothesis that higher wages could also increase productivity  It recognizes that a standard work contract can never be fully defined  The wage becomes an “instrument” to incite workers to fully and efficiently comply with their duties that are specified in the contract only vaguely

27 Goethe Business School 27 Sam Goldwyn (movie producer) about one of his best agents : “We are overpaying him, but he’s worth it”

28 Goethe Business School 28 Higher wages are supposed...  reduce transactions costs that could result from frequent turnover of personnel .. to keep in particular qualified personnel “on board”, and to counter problems of adverse selection of staff .. to increase the motivation and work effort of staff, and to contain the problem of “moral hazard”  Efficiency wages will aggravate inequality between skilled and unskilled labor

29 Goethe Business School 29 “Dual” labor market, efficiency wage, and collective bargaining  For a “dual” labor market with less qualified workers (or “outsiders”) and more qualified workers (“insider”); and  Wages being lumped together through standard work contracts for collective bargaining; and  Qualified staff (or “insiders”) enjoying efficiency wages, but less skilled staff (or “outsiders”) not; then  A wage increase will produce unemployment

30 Goethe Business School 30 “Dual” labor market, and collective bargaining L1L1 L2L2 Linked by contract (W/P) 1 Unemployment Employment increase (W/P) 2 Wage increase is “validated” through higher productivity

31 Goethe Business School 31 “Relative” wage stickiness  Not “absolute” wage stickiness will produce unemployment, but “relative” wage stickiness  The model also explains the coexistence of “unemployment” and “over-employment” (overtime work) at the same time  It also elucidates, in collective bargaining, the lack of employers’ resistance against real wage increases  Collective bargaining will also affect different groups differently: women, the young, the old

32 Goethe Business School 32 France: minimum wages and unemployment by groups Source: Ministry of Education, France

33 Goethe Business School 33 Rise in real wage dispersion  Industrialized countries will experience a rise in real wage dispersion  Its main causes are  Increased arbitrage in labor markets in a globalizing world, especially for services  A skill biased technical change of the production function, which favors highly trained work force  Globalization will also induce migration

34 Goethe Business School Lester Thurow (1993) “If capital is borrowable, raw materials are buyable and technology is copyable, what are you left with if you want to run a high-wage economy? Only skills; there isn’t anything else.”

35 Goethe Business School 35 Reading Abel, Bernanke and Croushore, Chapter 3.4 and 3.5

36 Goethe Business School Readings Reading 5-4 “Labour pains” The Economist, September 21 st 2000 (a bit dated by now, but still interesting) Reading 5-5 “The dark side of globalisation”, The Economist, May 29 th, 2008 36

37 Goethe Business School 37 Discussion 5: Understanding the global labor market  What characterizes the global market for labor?  Should firms only look at wages when making investment decisions at an international scale?  How will globalization impinge on the labor market of the 21 st century?


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