Chapter 9 Weekly Homework

Understanding that unemployment benefits give workers the incentive to not look for work until their benefits run out, suppose an economist suggested that instead of giving workers up to 26 weeks of unemployment benefits that end once the person finds work, a person who loses his or her job would just get a single big check for 26 weeks of benefits, regardless of how long the worker is unemployed. Which of the following are true?

Correct: It is likely to reduce unemployment by increasing the incentives to look for work earlier. Correct: It would be costly. Because unemployed workers would get 26 weeks of benefits regardless of how soon they find new jobs, these workers have an incentive to look for work right away since they don't lose benefits the moment they find a new job. Thus, the advantage of this idea is that it is likely to reduce unemployment by increasing the incentives to look for work earlier. The disadvantage of the idea is that it would be costly. All workers would be compensated for a full 26 weeks of unemployment; under the previous 26-week limit, any workers finding jobs before 26 weeks are up don't receive benefits, thus reducing total unemployment payments.

If the government eliminated unemployment benefits, then the official unemployment rate would likely (_____).

Decrease The unemployment rate would likely decrease because while unemployment benefits are typically well below the wages an unemployed worker was earning, they make it somewhat less costly to be unemployed. Therefore, on the margin, it reduces an unemployed worker's incentive to find a new job. Also, if no unemployment benefits existed, then there would be no economic incentive to fraudulently report unemployment in order to receive benefits while actually employed.

If the official unemployment rate decreases two or three months in a row, then it is a sure sign of improvement in the economy.

False. This statement is false, because while a decrease in the official unemployment rate several months in a row could be the sign of economic improvement, it is not a sure sign of improvement. The reduction in the official unemployment rate could also be caused by a weakening economy. For example, if more workers become discouraged and drop out of the labor force because of dismal prospects for employment, the official unemployment rate (U3) would decrease. However, no one would consider this event as a sign of economic improvement. The U6 unemployment rate would remain constant, but the labor force participation rate would decline. This example illustrates why a single measure is inadequate for determining the state of the economy.

Suppose the federal government expands unemployment insurance such that people who qualify receive 90% of their salary for 2 years, assuming they continue to fulfill the requirements of the benefits. Which of the following occurs?

Natural rate of unemployment increases. The design of the unemployment insurance programs is ultimately a balance of tradeoffs. With limited benefits, losing a job becomes a devastating financial hardship, but with benefits, the unemployed don't have a strong incentive to actively search for a job, increasing the natural rate of unemployment—both frictional and structural unemployment.

The table below presents labor market data for three countries. All population values are in millions. a. Fill in the blanks in the table above. b. In part a, you may have noticed that the unemployment rates of the three countries differ from one another. Which of the following are possible reasons why a country may have a higher unemployment rate?

No: The country could be in an expansion and have lower cyclical unemployment. The country could have a more liberalized labor market, leading to lower frictional unemployment. The country could have a lower natural rate of unemployment. Yes: The country could have higher (and binding) minimum wages. The country could be in a recession and have higher cyclical unemployment. The country could have more generous unemployment benefits. A greater percentage of the country's workers could be unionized. Many firms in the country have elected to pay efficiency wages. (1) Labor force = Employed + Unemployed = 61 + 2 = 63. (2) Unemployment rate = Unemployed/Labor force = (2/63) × 100 = 3.17. (3) Labor-force participation rate = Labor force/Working-age population = (63/116) × 100 = 54.31. (4) Employed = Labor force - Unemployed = 34 - 3 = 31. (5) Unemployment rate = (Unemployed/Labor force) = (3/34) × 100 = 8.82. (6) Labor-force participation rate = (Labor force/Working-age population) ×100, so Working-age population = (Labor force/Labor-force participation rate) × 100 = (34/61.82) × 100 = 55. (7) Labor-force participation rate = Labor force/Working-age population = (50/74) × 100 = 67.57. (8) Unemployment rate = (Unemployed/Labor force) × 100, so Unemployed = (Unemployment rate × Labor force)/100 = (8 × 50)/100 = 4. (9) Labor force = Employed + Unemployed, so Employed = Labor force - Unemployed = 50 - 4 = 46. b. There are multiple possible reasons for this. • Many firms in the country could be paying efficiency wages. • A country could be in a recession and have higher cyclical unemployment. • A country could have higher (and binding) minimum wages. • A greater percentage of the workers could be unionized. • A country could have more generous unemployment benefits.

Suppose an increase in the level of migration increases the supply of labor at any wage. The labor supply curve (_____). If wages freely adjust, then the wage will (_____). If wages are sticky, then the unemployment rate will (_____).

Shift to the right Decrease Increase

Suppose an economic slowdown reduces the demand for labor at any wage. The labor demand curve (_____). If wages freely adjust, then the wage will (_____). If wages are sticky, then the unemployment rate will (_____).

Shifts to the left Decrease Increase

Suppose the baby boomers begin to retire and this reduces the labor-force participation rate, causing a decrease in the supply of labor at any wage. The labor supply curve (_____). If wages freely adjust, then the wage will increase (_____). If wages are sticky, then the unemployment rate will increase (_____).

Shifts to the left Increase Increase

What occurs in the labor market when the prevailing wage (price) exceeds the equilibrium wage (price)?

Unemployment rises A surplus arises When the prevailing wage (price) exceeds the equilibrium wage (price), the quantity of labor supplied (people wanting to work) is greater than the quantity of labor demanded (jobs offered by firms wanting to hire). In other words, there is a surplus of labor.

Consider the economy whose data appear in the table below. Working-age population: 110,000 Labor force: 60,000 Unemployed: 14,000 a. The unemployment rate is: (___)%. b. The labor-force participation rate is: (___)%.

a. 23.3 ± 0.1 Unemployment rate = Unemployed/Labor force = (14,000/60,000) × 100 = 23.3%. b. 54.5 ± 0.1 Labor-force participation rate = Labor force/Working-age population = (60,000/110,000) × 100 = 54.5%.

Consider the market for labor as shown in the graph below. a. The equilibrium wage is (___) pesos. At this wage, (___) people are employed. b. Suppose the government sets the minimum wage at 70 pesos. At this minimum wage, (___) million people are employed and (___) million people are unemployed.

a. 50 pesos, 40 million people are employed b. 20 million people are employed, 40 million people are unemployed a. The equilibrium wage is 50 pesos and 40 million people are employed. b. If the minimum wage is 70 pesos, then 20 million people are employed and 40 million people are unemployed. Firms hire labor at the point where the minimum wage of 70 pesos meets the labor demand curve. The point where the minimum wage meets the labor supply curve identifies how many people are willing to work.

Classify each of the following situations as either frictional, structural, or cyclical unemployment. a. Maria has started looking for work after taking time off to have a baby. b. Juan left high school without graduating and can't find any jobs he is qualified for. c. Rohit had a job working on Wall Street but lost his job during the financial crisis. d. Adam has just arrived in a new city and is looking for work. e. Max wants to work as an air steward, but because the airline industry is heavily unionized there are very few jobs available. f. Jada has just lost her job in a web startup that was affected by a downturn in the economy.

a. Frictional unemployment: Returning from work after childbirth is a natural life change. b. Structural unemployment: Juan lacks the skills to engage in productive work.c. Cyclical unemployment: The financial crisis is a temporary economic downturn. d. Frictional unemployment: Changing cities is a natural life change. e. Structural unemployment: Unions alter the demand structure for labor in the airline industry. f. Cyclical unemployment: Her job was lost due to a temporary economic downturn.

Assume the equilibrium wage rate is $6, as shown below. a. The government introduces a minimum wage of $5.50. Draw a horizontal line to identify the minimum wage on the graph. Compared to unemployment at the equilibrium wage, unemployment will (_____). b. The government introduces a minimum wage of $6.50. Draw a horizontal line to identify the minimum wage on the graph. Compared to unemployment at the equilibrium wage, unemployment will increase

a. stay the same b. increase a. Since the equilibrium wage is above the government-mandated minimum wage, the minimum wage will not be binding. Firms will already be paying above the set minimum wage. Therefore, the minimum wage will have no effect on the wage paid or the unemployment rate. b. Since the government-mandated minimum wage is above the equilibrium wage, in this case, the minimum wage is binding. The wages paid to workers will rise, but so will unemployment.

Unemployment is often called a lagging or trailing indicator because unemployment tends to rise some time after the economy begins to slow down, and unemployment begins to fall again after the economy begins to rebound. Unemployment trails GDP because:

firms will reduce employee work hours before laying them off when the economy is in recession, and increase hours of existing workers before hiring new workers when the economy expands. Explanation: It is expensive and unpleasant for firms to fire or lay off workers. Thus, firms will avoid getting rid of employees at the first sign of an economic downturn and will often wait until a recession is firmly in place before they start getting rid of workers. Thus, the rise in unemployment trails the fall in GDP. Likewise, it is expensive to recruit and train new employees, so firms typically wait until a recovery is well underway before they start hiring again. Again, the fall in unemployment trails the rise in GDP.

It may be rational for a firm to offer wages above the minimum wage because paying higher wages:

is likely to attract higher-quality workers, who will be more productive, and there will likely be less turnover. The old adage is "you get what you pay for." Paying higher wages is likely to attract higher-quality workers who will be more productive. Paying higher wages also induces higher effort from employees, since highly paid workers have more to lose if they lose their jobs. Finally, highly paid workers are less likely to leave their jobs. Since recruiting and training employees is expensive, reducing job turnover is valuable to firms.

Suppose the president of a country comes to you for advice. The country is currently at eight percent unemployment and the president wishes to reduce unemployment in the country to three percent. As an economist, you determine that the country's natural rate of unemployment is five percent. You can advise the president that the target unemployment rate should be:

the natural rate of unemployment, not below it. There are several potential things you could tell the president. First, since the current unemployment rate is eight percent and the natural rate is five percent, the country must be suffering from cyclical unemployment. Anything the president can do to stimulate the economy is likely to reduce the unemployment rate closer to five percent. However, the president should also pick a different target. The natural rate of unemployment is "the minimum level of unemployment that is unavoidable in a dynamic economy," and in general, any attempts to reduce unemployment below this number are likely to result in a lot of effort for little gain. So, economic recovery should bring the unemployment rate down closer to five percent but there is no reason to believe the economy can get all of the way to three percent. There are ways to reduce the natural rate of unemployment (although probably not to three percent, at least in the U.S.). The government can provide retraining for those with structural unemployment issues. Lowering unemployment compensation and eliminating the minimum wage are also likely to reduce the natural rate of unemployment.

All other things equal, when the wage increases:

the quantity of labor demanded decreases. All things being equal, firms will want to hire more labor when wages are lower and less labor when wages are higher. Also, when wages are lower, fewer people want to work, and when wages are higher, more people want to work. In terms of terminology, an increase in the wage will cause a decrease in the quantity of labor demanded and an increase in the quantity of labor supplied, represented by a movement along the curve. A decrease in labor demand is a shift to the left of the labor demand curve. This is not caused by a change in the wage.

Compare two countries, one that has unlimited unemployment insurance and one in which workers are only eligible for 26 weeks of unemployment insurance. One reason why the country with more unemployment insurance may have a higher equilibrium unemployment rate is that:

workers in the country with unlimited unemployment benefits have less incentive to search diligently for work. Workers in the country with unlimited unemployment benefits have less incentive to search diligently for work, since they will receive benefits for a long time period even if they don't find work. Thus, they are more likely to remain unemployed than workers in a country with benefits limited to 26 weeks, who have a very strong incentive to find a new job within the 26 weeks before they lose their benefits.