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Unemployment Economics Essay

A recent report, by Professor Steve Fothergill, suggests that the real level of unemployment is already closer to 3.4 million - much higher than the 1.6m official claimant count statistics suggest (link)

The report suggests the real unemployment level is higher because there are many people unemployed but not entitled to unemployment benefits. (see also: What is true level of unemployment in UK)

In September, the employment rate fell to 72% and the official unemployment rate rose to 8.0%



Solutions to Unemployment

1. Demand Side Policies.

Undoubtedly, the main cause of unemployment is the current recession and output gap. With demand falling, firms have spare capacity and so are employing less workers. This is why we have:
  • 0.5% interest rates
  • expansionary fiscal policy
  • Quantitative easing.
The problem is that these three demand side policies have been unable to stem the rise in unemployment. This does not mean they have been a complete failure. Without these policies to boost demand, the unemployment rate would be higher. The problem is these policies take time to have an effect.

Employment Subsidies

An employment subsidy could be given to firms who keep on workers part time during the recession. This saves the government the cost of unemployment benefits and prevents workers being idle and losing on the job training. However, the danger of employment subsidies is that they may be misused by firms who see an opportunity to gain extra income. It is also difficult for the government to decide which workers / firms to subsidise.

Cutting Minimum Wages

With stagnant nominal wage growth, the minimum wage is more at risk of causing real wage unemployment. - wages above equilibrium levels. A cut in minimum wages could create extra job opportunities. However, there is no guarantee that cutting wages actually creates jobs. Since the minimum wage was introduced in 1999, successive increases were compatible with a period of falling unemployment. Cutting wages would also reduce overall demand in the economy, creating less demand for workers.

Education and Training of Long Term Unemployed.

Whilst the majority of current unemployment is cyclical, even before the current recession there were pockets of structural unemployment related to a lack of skills. Relevant skills and training programmes would help the long term unemployed get back into work. Few economists would have any objection to the principle of retraining the unemployed. It is essential the skills and education is highly relevant to the needs of the workforce. However, it is a policy often easier to say than actually do. I don't know a time when we haven't talked about the need to improve education and training. But, I do believe that in the UK, too much emphasis is placed on getting 50% of young people a degree when insufficient money is spent on vocational training.

Reclassification of Incapacity Benefits.

The report mentioned above, suggests that many long term unemployed have been given incapacity benefits when there are still jobs they could do. Rather than conveniently putting people on incapacity benefits, more attention could be given to retraining workers for non-manual labour. The potential cost savings of reducing dependence on sickness benefits are significant. Though it will be a difficult balancing act to prevent those really incapable of work being withdrawn from necessary welfare support. Also, this policy will not reduce the official claimant count, but will increase employment rates.

Flexible Labour Markets.

Many economists have suggested high levels of structural unemployment are due to inflexible labour markets. For example, if it is difficult to hire and fire workers this can discourage firms from employing workers in the first place. Arguably this is a much bigger issue in European countries such as France and Spain.

Shorter Working Week.

The theory is that if workers are doing 40 hour weeks, then reducing the week to 30 hours will lead to an increase in the number of workers employed. However, in practise, it is rarely as simple as that. The shorter working week can also act as hindrance to firms.

Geographical Subsidies.

The geographical spread of unemployment is not as bad as in the 1980s, but the north south gap still exists. Of the top 20 areas of unemployment all are above the line from the Wash to the Severn. It is again manufacturing output in the UK's industrial heartlines that has been hardest hit. The fall in manufacturing output 13% is double the fall in GDP 6%. Subsidies / tax breaks may be need to encourage firms to open in relatively more depressed areas.

Weak Pound and Restructuring of Economy.

The weak pound does make UK exports more competitive. It may help manufacturing relative to the consumer sector. In the long term, when the global economy recovers, this boost in exports may help create manufacturing jobs in the north.

Related Posts on Reducing unemployment

According to the claimant count, which measures the number of people on JSA, unemployment has fallen from approx 3 million in 1993 to 1 million in 2003. The Labour force survey is slightly higher at the moment it is about 5% of the workforce higher then the CC (3%).

Unemployment is caused by a variety of factors e.g. frictional, structural, cyclical, real wage and voluntary unemployment.

Since 1993 the economy has experience strong economic growth due to rising AD, as output increase firm demand more workers therefore there has been a big fall in cyclical unemployment. The Bank of England has used Monetary policy effectively to keep inflation low but also ensure stable economic growth.

Also it is arguable that the natural rate of unemployment has fallen, for example supply side policies have made the labour market more flexible. E.g. lower taxes and benefits have increased the incentives to work. (Benefits have been index linked, this means that they rise in line with inflation and therefore fall behind wages)

In the 1980s the power of trades unions reduced for both economic and political reasons; therefore there is less real wage unemployment, as unions are not able to keep wages above the equilibrium for a long time.

There has been significant structural change in the UK economy, the manufacturing sector has declined relatively this may have caused some structural unemployment due to mismatch of skills. However, there has been growth in other areas such as the service sector eg. IT. Therefore, there have been many new jobs created