WEBVTT 00:00:00.776 --> 00:00:03.776 ♪ [music] ♪ 00:00:13.690 --> 00:00:14.730 [Alex] Today we're going to look at cyclical unemployment: 00:00:14.730 --> 00:00:17.730 unemployment correlated with the ups and downs 00:00:17.730 --> 00:00:19.540 of the business cycle. 00:00:19.540 --> 00:00:22.540 Using our friend, the FRED database, 00:00:22.540 --> 00:00:28.380 it's easy to see that unemployment increases 00:00:28.380 --> 00:00:29.570 during a recession when the economy is shrinking 00:00:29.570 --> 00:00:32.570 or growing only very slowly. 00:00:32.570 --> 00:00:35.310 Indeed, low growth and high unemployment, 00:00:35.310 --> 00:00:38.310 that's part of what define a recession. 00:00:38.310 --> 00:00:40.770 Lower growth is usually accompanied 00:00:40.770 --> 00:00:43.770 by high unemployment for two reasons. 00:00:43.770 --> 00:00:45.180 First, and most obviously, when GDP is falling 00:00:45.180 --> 00:00:48.180 or growing more slowly than expected, 00:00:48.180 --> 00:00:53.430 firms often lay off workers, which generates unemployment. 00:00:53.430 --> 00:00:55.950 The second reason is slightly more subtle. 00:00:55.950 --> 00:00:58.950 Higher unemployment means 00:00:58.950 --> 00:01:02.100 that fewer workers are producing goods and services, 00:01:02.100 --> 00:01:05.100 and when workers are sitting idle, 00:01:05.100 --> 00:01:08.106 it's likely that capital is also sitting idle. 00:01:08.106 --> 00:01:11.106 And an economy with idle labor and capital, 00:01:11.106 --> 00:01:14.320 well it can't be maximizing growth. 00:01:14.320 --> 00:01:17.320 Although unemployment is clearly correlated 00:01:17.320 --> 00:01:18.920 with the business cycle, 00:01:18.920 --> 00:01:21.920 the exact reasons why are debated by economists. 00:01:21.920 --> 00:01:24.030 To see some of the issues, notice for example, 00:01:24.030 --> 00:01:27.030 that unemployment typically spikes quickly 00:01:27.030 --> 00:01:29.990 when growth declines. 00:01:29.990 --> 00:01:32.990 But then it returns to more normal levels only slowly. 00:01:32.990 --> 00:01:39.410 The unemployment rate spiked in 2008, 00:01:39.410 --> 00:01:43.780 for example, as the economy declined. 00:01:43.780 --> 00:01:46.780 By 2010, the economy was actually growing 00:01:46.780 --> 00:01:50.950 at a slow but steady rate of around 2% per year. 00:01:50.950 --> 00:01:53.950 But unemployment didn't return to pre-recession levels 00:01:53.950 --> 00:01:58.150 for another five years. 00:01:58.150 --> 00:02:01.150 Why did it take so long for the unemployment rate 00:02:01.150 --> 00:02:04.130 to return to more normal levels? 00:02:04.130 --> 00:02:07.130 Think about a typical market, say the market for apples. 00:02:07.130 --> 00:02:12.850 Unemployed apples in this case would be apples 00:02:12.850 --> 00:02:15.670 that aren't being bought. 00:02:15.670 --> 00:02:18.670 Now in a situation with high apple unemployment, 00:02:18.670 --> 00:02:20.110 you'd have a higher quantity supplied 00:02:20.110 --> 00:02:23.110 than the quantity demanded at the current price. 00:02:23.110 --> 00:02:25.040 So what would you expect to happen in this situation? 00:02:25.040 --> 00:02:28.040 Well ordinarily, the price of apples would drop 00:02:28.040 --> 00:02:29.530 until the quantity supplied of apples 00:02:29.530 --> 00:02:32.530 equaled the quantity demanded and the market cleared. 00:02:32.530 --> 00:02:39.700 However, people are more complicated than apples. 00:02:39.700 --> 00:02:41.435 And labor markets - they don't seem to behave in quite this way. 00:02:41.435 --> 00:02:44.435 Even when there are lots of unemployed workers, 00:02:44.435 --> 00:02:49.290 that is a higher quantity supplied of workers 00:02:49.290 --> 00:02:52.830 than the quantity demanded, 00:02:52.830 --> 00:02:55.830 wages seem to fall more slowly than you would expect. 00:02:55.830 --> 00:03:00.270 Economists say that wages are “sticky.” 00:03:00.270 --> 00:03:03.270 Sticky wages reduce the incentives to hire more workers, 00:03:03.270 --> 00:03:07.010 and they slow the adjustment process. 00:03:07.010 --> 00:03:10.010 Now sticky wages are puzzling, 00:03:10.010 --> 00:03:12.670 and economists have a number of theories 00:03:12.670 --> 00:03:15.670 for why wages might be sticky. 00:03:15.670 --> 00:03:20.650 Probably the most important reason is that human beings get very upset 00:03:20.650 --> 00:03:25.200 when their wages fall, especially if a fall in wages is obvious, 00:03:25.200 --> 00:03:28.200 and appears to be caused by a person, 00:03:28.200 --> 00:03:31.760 easily identifiable, like an employer. 00:03:31.760 --> 00:03:34.760 Imagine that your employer cut your wages. 00:03:34.760 --> 00:03:37.200 You’d probably be pretty upset. 00:03:37.200 --> 00:03:40.200 You might even retaliate by working less hard, 00:03:40.200 --> 00:03:43.630 or even by disrupting your work place. 00:03:43.630 --> 00:03:46.630 Because of the fear of reducing morale, 00:03:46.630 --> 00:03:49.660 employers are very reluctant to reduce nominal wages. 00:03:49.660 --> 00:03:52.660 This graph, for example, shows the distribution 00:03:52.660 --> 00:03:55.270 of non-zero wage changes. 00:03:55.270 --> 00:03:58.270 Small increases in wages are common, 00:03:58.270 --> 00:04:03.790 but small decreases in wages are very rare. 00:04:03.790 --> 00:04:06.790 Now even in a growing economy, 00:04:06.790 --> 00:04:09.390 we'd expect to see wages to fluctuate, like other prices, 00:04:09.390 --> 00:04:12.390 with lots of small wage decreases, as well as wage increases: 00:04:12.390 --> 00:04:18.740 supply and demand are constantly changing. 00:04:18.740 --> 00:04:24.190 But that's not what we see. 00:04:24.190 --> 00:04:27.190 Wages go up much more often than they go down. 00:04:27.190 --> 00:04:29.010 If nominal wages are sticky in the downward direction, 00:04:29.010 --> 00:04:32.010 it's going to take a long time to adjust to a shock 00:04:32.010 --> 00:04:35.510 that requires wages to fall, 00:04:35.510 --> 00:04:38.510 especially if the inflation rate is low; 00:04:38.510 --> 00:04:44.240 a point which we will return to in a later video. 00:04:44.240 --> 00:04:46.620 Unemployed workers may also take time to learn 00:04:46.620 --> 00:04:49.620 or to accept that their wages have fallen. 00:04:49.620 --> 00:04:53.110 And workers may also be afraid to accept a low-quality job 00:04:53.110 --> 00:04:56.110 for fear of being branded a low-quality worker. 00:04:56.110 --> 00:05:01.050 If you're a computer programmer, 00:05:01.050 --> 00:05:02.050 you might not want to take a job at Starbucks, 00:05:02.050 --> 00:05:04.980 even if you could get one - or at least you might not want 00:05:04.980 --> 00:05:07.780 to put it on your resume. 00:05:07.780 --> 00:05:08.780 So workers may want to search for a long time 00:05:08.780 --> 00:05:10.780 before they take a new job. 00:05:10.780 --> 00:05:17.210 Minimum wages and union contracts can also slow the adjustment 00:05:17.210 --> 00:05:20.740 of wages, as they put legal or contractual limits 00:05:20.740 --> 00:05:23.740 on how low wages can go. 00:05:23.740 --> 00:05:25.100 All of these mechanisms can lengthen the amount of time 00:05:25.100 --> 00:05:28.100 that it takes for unemployed workers to be rehired. 00:05:28.100 --> 00:05:36.660 Okay - one final concept: the natural rate of unemployment. 00:05:36.660 --> 00:05:41.940 The natural rate is defined as, the rate of unemployment 00:05:41.940 --> 00:05:43.890 that would occur if there were no cyclical unemployment. 00:05:43.890 --> 00:05:44.890 In other words, it's the rate 00:05:44.890 --> 00:05:46.890 of frictional plus structural unemployment. 00:05:46.890 --> 00:05:51.620 Now why do we care about the natural rate? 00:05:51.620 --> 00:05:57.050 We care because economists think that under some conditions, 00:05:57.050 --> 00:05:59.800 the government can reduce cyclical unemployment 00:05:59.800 --> 00:06:02.800 through fiscal and monetary policies - 00:06:02.800 --> 00:06:06.730 things like spending more money, cutting taxes, 00:06:06.730 --> 00:06:10.880 or increasing the money supply. 00:06:10.880 --> 00:06:13.880 These policies, however, are unlikely to change 00:06:13.880 --> 00:06:16.780 frictional or structural unemployment. 00:06:16.780 --> 00:06:19.780 So when the unemployment rate is close to the natural rate, 00:06:19.780 --> 00:06:26.430 that suggests that the scope for monetary 00:06:26.430 --> 00:06:28.980 and fiscal policy is diminished. 00:06:28.980 --> 00:06:29.980 Now unfortunately we can only estimate 00:06:29.980 --> 00:06:31.980 the natural rate of unemployment. 00:06:31.980 --> 00:06:35.160 It's not something that we observe. 00:06:35.160 --> 00:06:38.160 This figure shows one estimate of the natural rate 00:06:38.160 --> 00:06:41.250 alongside the actual unemployment rate. 00:06:41.250 --> 00:06:44.250 Notice that by 2015 the actual unemployment rate 00:06:44.250 --> 00:06:47.020 was close to the natural rate. So by this estimate, 00:06:50.020 --> 00:06:53.190 the time for fiscal and monetary policy had passed. 00:06:53.190 --> 00:06:56.190 Other estimates of the natural rate might suggest more room for policy. 00:06:56.190 --> 00:07:03.270 Clearly, theories of cyclical unemployment 00:07:03.270 --> 00:07:05.080 are closely tied to theories of the business cycle. 00:07:05.080 --> 00:07:08.080 Why does an economy have booms and busts? 00:07:08.080 --> 00:07:13.850 And to theories about how the government might use 00:07:13.850 --> 00:07:16.940 fiscal and monetary policy to smooth the business cycle. 00:07:16.940 --> 00:07:19.940 So we will be revisiting all of these issues in future videos. 00:07:23.800 --> 00:07:24.800 [Narrator] If you want to test yourself, 00:07:24.800 --> 00:07:27.310 click "Practice Questions." 00:07:27.310 --> 00:07:31.183 Or, if you're ready to move on, 00:07:31.200 --> 00:07:34.200 you can click "Go to the Next Video." 00:07:34.200 --> 00:07:40.117 You can also visit MRUniversity.com 99:59:59.999 --> 99:59:59.999 to see our entire library of videos and resources.