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© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-1 Chapter 18 Unemployment: Causes and Consequences Created by: Erica Morrill, M.Ed Fanshawe College
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-2 Chapter Focus Types of unemployment Wage rigidity Voluntary unemployment Imperfect information Unemployment insurance
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-3 Types of Unemployment Frictional Structural Demand-Deficient Seasonal Involuntary (associated with wage rigidity)
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-4 Search Unemployment Imperfect information on both sides of the labour market Undertaking a job search has costs and benefits determine if it is worthwhile to initiate the job search determine when to discontinue
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-5 Optimal Job Search Marginal expected benefit equals marginal expected cost Diminishing returns Duration - less likely a better offer will be received “Stopping Rule”- minimum acceptable wage
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-6 Figure 18.1 Optimal Job Search Search duration Present value of total costs and expected total benefits SeSe Search duration Present value of MC and expected MB SeSe C B MC MB
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-7 Figure 18.2 Wage Distributions Under Imperfect and Perfect Information Wage rate Number of Jobs WAWA Wage rate Number of Jobs WeWe Imperfect Information Full Information
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-8 Factors Determining Optimal Search Wage offers and duration of job Increase in benefits/decrease in costs Dissemination of information Vacancies/offers Value of leisure/# of other searchers Social and labour market policies Aggregate economic conditions
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-9 Implicit Contracts Firms and workers are already engaged in employment relationship Explains responses to changes in production demand rigid wages layoffs/rehires Reflects risk-sharing
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-10 Implicit Contract Theory Employees purchase income insurance from the employer The employer can then deal with: moral hazard adverse selection
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-11 Figure 18.3 a Implicit Contracts Employment N Real Wage W NoNo S NbNb D b = MPP N X P b D a = MPP N X P a WaWa W b =k Wages and Employment with Market-Clearing
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-12 Figure 18.3 b Implicit Contracts Employment N Real Wage W NoNo NbNb S D a = MPP N X P a WaWa D b = MPP N X P b Nb*Nb* Wages and Employment with Implicit Contracts k W*
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-13 Efficiency Wages: Implications for Unemployment Effect of wages on incentives and productivity Above market wages are used to enhance productivity S-shaped function
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-14 Efficiency Wages: Implications for Unemployment Unemployment and rigid wages can coexist Firms refuse to cut wages because of the adverse work incentives Wage curve Higher unemployment leads to a greater penalty for shirking thus firms do not have to pay higher wages
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-15 Insider-Outsider Theory Wage setting is determined by bargaining Costly for the firm to replace workers Workers have bargaining power to raise wages even with excess labour supply Explains the existence of high unemployment and real-wage growth
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-16 Sectoral Shifts and Unemployment Sectors of the economy are growing at different rates Unemployment occurs as labour reallocates from the slower sectors to the fast growing sectors
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-17 Rationale for Unemployment Insurance Moral hazard and adverse selection reduce the profitability of selling insurance Private sector may not provide the socially optimal amount of unemployment insurance Therefore, governments introduced unemployment insurance as part of social policy
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-18 Effects of Unemployment Insurance Incident and duration of employment Layoffs Employment instability Labour supply Interregional mobility
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-19 Incident and Duration of Employment Lower cost of job search increasing the duration of the unemployed search Ineligible workers are motivated to accept employment quickly to then qualify for benefits
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-20 Layoffs UI lowers the cost of adjusting to fluctuations in demand layoffs relative to other methods Without UI employers who rely on layoffs would have to pay a compensating wage to attract employees
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-21 Employment Instability UI may encourage the use of layoffs as opposed to reductions in hours of work This bias can be offset by: experience-rated UI programs UI assisted work sharing programs
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-22 Labour Supply UI impacts labour force participation Higher UI causes some to reduce weeks worked to the minimum required others to increase weeks worked in order to qualify Labour force participation rises because no one leaves but new workers enter Measure unemployment increases
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-23 Interregional Mobility Regional extended benefits discourage interregional mobility by providing benefits for longer periods in regions with high unemployment
© 2002 McGraw-Hill Ryerson Ltd.Chapter 18-24 End of Chapter Eighteen
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