1 16 April 2015
1. Unemployment rate
• Important rates in an economy: interest rate, ex-change rate, inflation rate, and unemployment rate.
• Employment = number of people having a job.
• Unemployment = number of people not having ajob but looking for one.
• Labour force = Employment + Unemployment
• Unemployment rate =
• Participation rate =
Unemployment
Labour forceLabour force
Economically active population
2 16 April 2015
42
43
44
45
46
47
48
49
50
51
52
53
54
55
56
57
58
59
60
61
62
63
64
65
66
67
68
69
70
71
72
73
74
75
76
IV/2014
III/2014
II/2014
I/2014
IV/2013
III/2013
II/2013
I/2013
IV/2012
III/2012
II/2012
I/2012
IV/2011
III/2011
II/2011
I/2011
IV/2010
III/2010
II/2010
I/2010
IV/2009
III/2009
II/2009
I/2009
IV/2008
III/2008
II/2008
I/2008
IV/2007
III/2007
II/2007
I/2007
IV/2006
III/2006
II/2006
I/2006
IV/2005
III/2005
II/2005
I/2005
IV/2004
III/2004
II/2004
I/2004
IV/2003
III/2003
II/2003
I/2003
IV/2002
III/2002
II/2002
I/2002
IV/2001
III/2001
II/2001
I/2001
Catalonia, participation rate, 2001I-2014IVhttp://www.idescat.cat/economia/inec?tc=5&id=0608&lang=es&cp=04&x=7&y=10
TOTAL
MEN
DONES
16-24
SPAIN
3 16 April 2015
Basic types of unemployment
• Actual unemployment is divided into three catego-ries (the first two define “natural unemployment”).
• Frictional. Occurs while workers are changing jobs.
• Structural. Due to structural changes in theeconomy that create and eliminate jobs and to theinstitutions that match workers and firms (firingand hiring costs, minimum wages, unemploymentbenefits, mobility restrictions, lack of training…).
• Cyclical. Generated by the short-run fluctuations ofGDP (rises with recessions, falls with booms).
4 16 April 2015
00,10,20,30,40,50,60,70,80,91
1,11,21,31,41,51,61,71,81,92
2,12,22,32,42,52,62,72,82,93
3,13,23,33,43,53,63,73,83,94
4,14,24,34,44,54,64,74,84,95
5,1
1996M01
1996M05
1996M09
1997M01
1997M05
1997M09
1998M01
1998M05
1998M09
1999M01
1999M05
1999M09
2000M01
2000M05
2000M09
2001M01
2001M05
2001M09
2002M01
2002M05
2002M09
2003M01
2003M05
2003M09
2004M01
2004M05
2004M09
2005M01
2005M05
2005M09
2006M01
2006M05
2006M09
2007M01
2007M05
2007M09
2008M01
2008M05
2008M09
2009M01
2009M05
2009M09
2010M01
2010M05
2010M09
2011M01
2011M05
2011M09
2012M01
2012M05
2012M09
2013M01
2013M05
2013M09
2014M01
2014M05
2014M09
2015M01
Spain, registered unemployment, 1996M1-2015M2 (millions of persons)http://www.ine.es/jaxi/tabla.do?path=/t38/bme2/t22/a061/l0/&file=0202001.px&type=pcaxis&L=0
TOTAL
MEN
WOMEN
5 16 April 2015
0
200
400
600
800
1000
1200
1400
1600
1800
2000
2200
2400
2600
2800
3000
3200
3400
3600
3800
4000
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002TI
2002TIV
2003TIII
2004TII
Spain, estimated unemployment, 1976III-2004IV (thousands of persons)http://www.ine.es/jaxi/menu.do?type=pcaxis&path=/t22/e308/meto_02/pae/px/&file=pcaxis
TOTAL
MEN
WOMEN
6 16 April 2015
0
0,5
1
1,5
2
2,5
3
3,5
4
4,5
5
5,5
6
6,5
20
05
-I
20
05
-II
20
05
-III
20
05
-IV
20
06
-I
20
06
-II
20
06
-III
20
06
-IV
20
07
-I
20
07
-II
20
07
-III
20
07
-IV
20
08
-I
20
08
-II
20
08
-III
20
08
-IV
20
09
-I
20
09
-II
20
09
-III
20
09
-IV
20
10
-I
20
10
-II
20
10
-III
20
10
-IV
20
11
-I
20
11
-II
20
11
-III
20
11
-IV
20
12
-I
20
12
-II
20
12
-III
20
12
-IV
20
13
-I
20
13
-II
20
13
-III
20
13
-IV
ESTIMATED
REGISTERED
Spain, registered and estimated unemployment(millions of persons)
http://www.ine.es/jaxi/tabla.do?path=/t38/bme2/t22/a061/l0/&file=0202001.px&type=pcaxis&L=0
http://www.ine.es/jaxiBD/tabla.do?per=03&type=db&divi=EPA&idtab=2193#nogo
7 16 April 2015
0
1000
2000
3000
4000
5000
6000
7000
8000
9000
10000
11000
12000
13000
14000
15000
16000
17000
18000
19000
20000
21000
22000
23000
24000
25000
26000
27000
28000
29000
30000
31000
32000
33000
34000
35000
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002TI
2002TIV
2003TIII
2004TII
Spain, 1976III-2004IV (thousands of persons)http://www.ine.es/jaxi/menu.do?type=pcaxis&path=/t22/e308/meto_02/pae/px/&file=pcaxis
POPULATION
LABOUR FORCE
UNEMPLOYED
8 16 April 2015
0
500
1000
1500
2000
2500
3000
3500
4000
4500
5000
5500
6000
6500
7000
7500
8000
8500
9000
9500
10000
10500
11000
11500
12000
12500
13000
13500
14000
14500
15000
15500
16000
16500
17000
17500
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002TI
2002TIV
2003TIII
2004TII
Spain, employment, 1976III-2004IV (thousands of persons)http://www.ine.es/jaxi/menu.do?type=pcaxis&path=/t22/e308/meto_02/pae/px/&file=pcaxis
TOTAL
MEN
WOMEN
9 16 April 2015
0
200
400
600
800
1000
1200
1400
1600
1800
2000
2200
2400
2600
2800
3000
3200
3400
3600
3800
4000
4200
4400
4600
4800
5000
5200
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
Catalonia, 1976III-1995IV (thousands of persons)http://www.ine.es/jaxi/menu.do?type=pcaxis&path=/t22/e308/meto_02/pae/px/&file=pcaxis
POBLACIÓ
EMPLOYMENTTOTAL
EMPLOYMENTWOMEN
10 16 April 2015
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
Catalonia 1976III-1995IV, unemployment ratehttp://www.ine.es/jaxi/menu.do?type=pcaxis&path=/
t22/e308/meto_02/pae/px/&file=pcaxis
TOTAL
MEN
WOMEN
11 16 April 2015
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
2002T1
2002T2
2002T3
2002T4
2003T1
2003T2
2003T3
2003T4
2004T1
2004T2
2004T3
2004T4
2005T1
2005T2
2005T3
2005T4
2006T1
2006T2
2006T3
2006T4
2007T1
2007T2
2007T3
2007T4
2008T1
2008T2
2008T3
2008T4
2009T1
2009T2
2009T3
2009T4
2010T1
2010T2
2010T3
2010T4
2011T1
2011T2
2011T3
2011T4
2012T1
2012T2
2012T3
2012T4
2013T1
2013T2
2013T3
2013T4
2014T1
2014T2
2014T3
2014T4
Spain, unemployment rate, 2002I-2014IVhttp://www.ine.es/jaxiT3/Datos.htm?t=4086
TOTAL
MEN
WOMEN
12 16 April 2015
0246810121416182022242628303234363840424446485052545658606264666870727476
2002T1
2002T2
2002T3
2002T4
2003T1
2003T2
2003T3
2003T4
2004T1
2004T2
2004T3
2004T4
2005T1
2005T2
2005T3
2005T4
2006T1
2006T2
2006T3
2006T4
2007T1
2007T2
2007T3
2007T4
2008T1
2008T2
2008T3
2008T4
2009T1
2009T2
2009T3
2009T4
2010T1
2010T2
2010T3
2010T4
2011T1
2011T2
2011T3
2011T4
2012T1
2012T2
2012T3
2012T4
2013T1
2013T2
2013T3
2013T4
2014T1
2014T2
2014T3
2014T4
Spain, unemployment rate, 2002I-2014IVhttp://www.ine.es/jaxiT3/Datos.htm?t=4086
TOTAL
16-19
20-24
25-29
13 16 April 2015
0
2
4
6
8
10
12
14
16
18
20
22
24
26
28
30
32
34
36
38
40
42
44
46
48
50
52
54
IV/2014
III/2014
II/2014
I/2014
IV/2013
III/2013
II/2013
I/2013
IV/2012
III/2012
II/2012
I/2012
IV/2011
III/2011
II/2011
I/2011
IV/2010
III/2010
II/2010
I/2010
IV/2009
III/2009
II/2009
I/2009
IV/2008
III/2008
II/2008
I/2008
IV/2007
III/2007
II/2007
I/2007
IV/2006
III/2006
II/2006
I/2006
IV/2005
III/2005
II/2005
I/2005
IV/2004
III/2004
II/2004
I/2004
IV/2003
III/2003
II/2003
I/2003
IV/2002
III/2002
II/2002
I/2002
IV/2001
III/2001
II/2001
I/2001Catalonia, unemployment rate, 2001I-2014IVhttp://www.idescat.cat/economia/inec?tc=5&id=0608&lang=es&cp=04&x=7&y=10
TOTAL
MEN
WOMEN
16-24
14 16 April 2015
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002T1
2002T4
2003T3
2004T2
2005T1
2005T4
2006T3
2007T2
2008T1
2008T4
2009T3
2010T2
2011T1
2011T4
2012T3
2013T2
2014T1
2014T4
Spain, unemployment rate, 1976III-2014IVhttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_02/pae/px/l0/&file=01011.px&type=pcaxishttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_05/rde/px/l0/&file=04002.px&type=pcaxis
http://www.ine.es/jaxiT3/Datos.htm?t=4086
15 16 April 2015
AD(aggregate
expenditure)
Y(aggregate
production)
�(unemployment
rate)
(inflation
rate)
16 16 April 2015
2. Okun’s law
• Okun’s law is an empirical relationship suggestedin 1962 by the US economist Arthur Okun (1928-80).
• Okun’s law: there is a negative relationship betwe-en the change ∆� = � − ��� in the unemployment
rate and ��=� � ���
���, the rate of growth of real GDP
�. A simple formal expression of the law is
∆� = � − � ·��
where � and � are positive constants that dependon the economy considered and the period withrespect to which variables � and �� are measured.
17 16 April 2015
��
D�
�
� = slope(in absolute value)
D� = � − � ·��
18 16 April 2015
��
D��
�
�= slope
(in absolute value)
�� =�
� −
�
�·D�
19 16 April 2015
Okun’s law (US version) /1
• Expressing the variables as annual percentages, inthe US, � ≈ 1.5 and � ≈ 0.5. Therefore:
∆� = 1.5 − ��/2 or � = ��� + 1.5 − ��/2.
• � represents the increase in � that occurs when theeconomy does not grow: if ��= 0, then ∆� = �.
• For instance, if ��� = 2% and ��= 0, then � = ��� +� − ��/2 = 2+ 1.5 − 0/2 = 3.5. Hence, if the unem-ployment rate at the beginning of the year is 2%and the economy does not grow, then at the end ofthe year the rate is 3.5% .
20 16 April 2015
Okun’s law (US version) /2
• � measures the ability of the economy to transformGDP growth into a smaller unemployment rate:� ≈ 0.5 means that increasing �� by one pointreduces � by 0.5 points.
• If ��= 2% , then � = ��� + 1.5 − ��/2 = ��� + 1.5 −2/2 = ��� + 0.5. If ��= 3% , then � = ��� + 1.5 −��/2 = ��� + 1.5 − 3/2 = ���.
• Therefore, increasing �� from 2% to 3% reduces �from ��� + 0.5 to ���. There is a gain of 0.5 points:an additional 1% in �� reduces � by 0.5 points.
21 16 April 2015
Okun’s law, US, 1951-2003
Okun’s law, US, 1951-2008https://www2.bc.edu/~murphyro/EC204/PPT/CHAP09.ppt
Per
cen
tag
e ch
ang
e in
rea
l GDP
Change in unemployment rate
1975
19821991
2001
1984
1951 1966
2003
19872008
1971
∆�
�= 3 − 2 ·∆�
22 16 April 2015-1
-0,5
0
0,5
1
1,5
2
2,5
3
3,5
4
4,5
5
-2 -1,5 -1 -0,5 0 0,5 1 1,5 2 2,5 3
∆�
1998
1977
Okun’s law, Spain(1977 1998)
http://www.ine.es
��
23 16 April 2015-1
-0,8
-0,6
-0,4
-0,2
0
0,2
0,4
0,6
0,8
1
1,2
1,4
1,6
1,8
2
-1 -0,8 -0,6 -0,4 -0,2 0 0,2 0,4 0,6 0,8 1 1,2 1,4 1,6 1,8 2
Okun’s law, Spain(1976IV1998IV)
http://www.ine.es
24 16 April 2015
-1,6
-1,4
-1,2
-1,0
-0,8
-0,6
-0,4
-0,2
0,0
0,2
0,4
0,6
0,8
1,0
1,2
1,4
1,6
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002T1
2002T4
2003T3
2004T2
2005T1
2005T4
2006T3
2007T2
2008T1
2008T4
2009T3
2010T2
2011T1
2011T4
2012T3
2013T2
2014T1
2014T4
Spain, unemployment rate, quarterly GDP growth rate, 1976III-2014IVhttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_02/pae/px/l0/&file=01011.px&type=pcaxishttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_05/rde/px/l0/&file=04002.px&type=pcaxis
http://www.ine.es/jaxiT3/Datos.htm?t=4086http://www.ine.es/jaxiT3/Datos.htm?t=2504http://www.ine.es/jaxiT3/Datos.htm?t=9375
UNEMPLOYMENTGDP
25 16 April 2015
-4,5
-4,0
-3,5
-3,0
-2,5
-2,0
-1,5
-1,0
-0,5
0,0
0,5
1,0
1,5
2,0
2,5
3,0
3,5
4,0
4,5
5,0
5,5
6,0
6,5
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
1976TIII
1977TII
1978TI
1978TIV
1979TIII
1980TII
1981TI
1981TIV
1982TIII
1983TII
1984TI
1984TIV
1985TIII
1986TII
1987TI
1987TIV
1988TIII
1989TII
1990TI
1990TIV
1991TIII
1992TII
1993TI
1993TIV
1994TIII
1995TII
1996TI
1996TIV
1997TIII
1998TII
1999TI
1999TIV
2000TIII
2001TII
2002T1
2002T4
2003T3
2004T2
2005T1
2005T4
2006T3
2007T2
2008T1
2008T4
2009T3
2010T2
2011T1
2011T4
2012T3
2013T2
2014T1
2014T4
Spain, unemployment rate, annual GDP growth rate, 1976III-2014IVhttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_02/pae/px/l0/&file=01011.px&type=pcaxishttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_05/rde/px/l0/&file=04002.px&type=pcaxis
http://www.ine.es/jaxiT3/Datos.htm?t=4086http://www.ine.es/jaxiT3/Datos.htm?t=2504http://www.ine.es/jaxiT3/Datos.htm?t=9375
UNEMPLOYMENT GDP
26 16 April 2015
-1,8
-1,6
-1,4
-1,2
-1
-0,8
-0,6
-0,4
-0,2
0
0,2
0,4
0,6
0,8
1
1,2
1,4
1,6
1,8
-2,6 -2,4 -2,2 -2 -1,8 -1,6 -1,4 -1,2 -1 -0,8 -0,6 -0,4 -0,2 0 0,2 0,4 0,6 0,8 1 1,2 1,4 1,6 1,8 2 2,2 2,4 2,6 2,8 3 3,2 3,4 3,6
D�
Spain, Okun’s law, 1976III-2014IVhttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_02/pae/px/l
0/&file=01011.px&type=pcaxishttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_05/rde/px/l0
/&file=04002.px&type=pcaxishttp://www.ine.es/jaxiT3/Datos.htm?t=4086http://www.ine.es/jaxiT3/Datos.htm?t=2504http://www.ine.es/jaxiT3/Datos.htm?t=9375
2009I
1984I
2001I
� ̂
27 16 April 2015
-1,8
-1,6
-1,4
-1,2
-1
-0,8
-0,6
-0,4
-0,2
0
0,2
0,4
0,6
0,8
1
1,2
1,4
1,6
1,8
-2,6 -2,4 -2,2 -2 -1,8 -1,6 -1,4 -1,2 -1 -0,8 -0,6 -0,4 -0,2 0 0,2 0,4 0,6 0,8 1 1,2 1,4 1,6 1,8 2 2,2 2,4 2,6 2,8 3 3,2 3,4 3,6
D�
Spain, Okun’s law, 1976III-2014IVhttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_02/pae/px/l
0/&file=01011.px&type=pcaxishttp://www.ine.es/jaxi/tabla.do?path=/t22/e308/meto_05/rde/px/l
0/&file=04002.px&type=pcaxishttp://www.ine.es/jaxiT3/Datos.htm?t=4086http://www.ine.es/jaxiT3/Datos.htm?t=2504http://www.ine.es/jaxiT3/Datos.htm?t=9375
2009I
2001I
1984I
� =̂ 0.589 0.484D�
� 1.21 � 2.06
� ̂
28 16 April 2015
3. The Phillips curve
• It is an empirical relationship described in 1960 byPaul Samuelson and Robert Solow based on a 1958paper by the New Zealand economist AlbanWilliam Housego Phillips (19141975).
• The Phillips curve expresses a negative relationshipbetween the unemployment rate � and the inflationrate �: the lower �, the higher �.
• With � and � positive constants, a linear Phillipscurve is represented by an equation of the sort
� = � − � ·� .
29 16 April 2015
Trade-off between � and �
• Expressing � and � in percentage terms, that� = � − � ·� means that, to reduce one percentagepoint the unemployment rate �, it is necessary toaccept an increase in the inflation rate � of � points.
• Let � = 10 and � = 2. If � = 4% , then � = 10 2·4= 2% . Then, for � to be reduced one point (from4% to 3% ), � must be increased in two percentagepoints (from � = 2% to � = 10 2·3= 4% ).
• � is the inflation rate that obtains with zero unem-ployment. It is a measure of underlying inflation.
30 16 April 2015
Unstability of the Phillips curve
• In contrast to Okun’s law, the Phillips curve is ingeneral unstable, since � is a volatile parameter.
• � depends on inflation expectations and the firms’cost structure: an increase in expected inflation orin the production costs rises �. When � rises, thecurve shifts upward, so more inflation must bepaid to reduce the unemployment rate.
• � indicates how sensitive � is to changes in �. Itdepends on institutional factors, like the bargain-ing power of trade unions (more power, higher �).
31 16 April 2015
-2
0
2
4
6
8
10
12
14
16
18
20
22
24
26
28
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28
1976 IV
2014 IV
Spain, Phillips curve
(1976IV 2014IV)http://www.ine.es/jaxi/menu.do?type=pcaxis&
path=/t22/e308_mnu&file=inebase&N=&L=0http://www.ine.es/jaxi/menu.do?type=pcaxis&
path=%2Ft25%2Fp138&file=inebase&L=0
32 16 April 2015
-2
0
2
4
6
8
10
12
14
16
18
20
22
24
26
28
4 6 8 10 12 14 16 18 20 22 24 26 28
2014 IV
1976 IV
Spain, Phillips curve (1976IV 2014IV)
33 16 April 2015
7
9
11
13
15
17
19
21
23
25
27
4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22
1976 IV
1986 IV
Spain, Phillips curve (1976IV 1986IV)
34 16 April 2015
-1
-0,5
0
0,5
1
1,5
2
2,5
3
3,5
4
4,5
5
5,5
6
6,5
7
7,5
7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28
1987 I
1994 IV
1996 I
2014 IV
Spain, Phillips curve
(1987I 1994IV, 1996I 2014IV)
35 16 April 2015
-2
0
2
4
6
8
10
12
14
16
18
20
22
24
26
28
19
76
III
19
77
III
19
78
III
19
79
III
19
80
III
19
81
III
19
82
III
19
83
III
19
84
III
19
85
III
19
86
III
19
87
III
19
88
III
19
89
III
19
90
III
19
91
III
19
92
III
19
93
III
19
94
III
19
95
III
19
96
III
19
97
III
19
98
III
19
99
III
20
00
III
20
01
III
20
02
III
20
03
III
20
04
III
20
05
III
20
06
III
20
07
III
20
08
III
20
09
III
20
10
III
20
11
III
20
12
III
20
13
III
20
14
III
Spain, inflation rate,unemployment rate
(1976III 2014IV)
36 16 April 2015
Japan’s Phillips curvelooks like Japan
(1980M1 2005M8)http://www.econ.yale.edu/smith/econ116a/japan.pdf
37 16 April 2015
4. The Swan diagram
��
�������� �����������
��(����
���ℎ��������)
������ ������������������ �������
��
������ �����������
����� �������
������ ������������������� �������
������ ������������
����� �������
38 16 April 2015
Internal and external balance
• Internal balance requires full employment ofresources (sufficiently low unemployment rate)and price stability (low and stable inflation rate).
• External balance corresponds to a balanced currentaccount (the supply and demand for the domesticcurrency are balanced). For simplicity, externalbalance is defined as zero trade balance.
• Internal balance and external balance both areassumed to depend on two variables: domesticexpenditures and the real exchange rate.
39 16 April 2015
The internal balance (IB) function /1
• The IBfunction drawn on the next slide is assumedincreasing for the following reason.
• Suppose the economy is initially at point �. If a realappreciation occurs (the real exchange rageincreases), then imports rise and exports fall. Thatis, there is a switch in demand from domestic toforeign goods. As a result, unemployment goes upand the economy moves from point � to �.
• To restore internal balance by reaching point �,unemployment must be eliminated. This requiresan increase in domestic expenditure.
40 16 April 2015
Interpreting the IBfunction /1
��
�������� �����������
��(����
���ℎ��������)
�
����
������������
���� �� �������������������
� �
��′�
��
41 16 April 2015
The internal balance (IB) function /2
• If follows from the previous analysis that pointsabove the IB function (excessive expenditureabroad) imply the existence of unemployment.
• Below the IBfunction failure of internal balance isnot due to unemployment but to inflation.
• For instance, at point �, given the correspondingreal exchange rate �′� , domestic expenditure isexcessive with respect to the level �� required toreach internal balance. This excess of domesticexpenditure manifests itself in the form of inflation.
42 16 April 2015
Interpreting the IBfunction /2
��
�������� �����������
��(����
���ℎ��������)
43 16 April 2015
The external balance (EB) function /1
• The EB function drawn on the next slide isassumed decreasing for the following reason.
• Suppose the economy is initially at point �, wherethe trade balance is zero. If domestic expenditureincreases, GDP and, consequently, income alsoincrease. Part of this additional income is spentbuying foreign goods. A trade deficit ensues.
• To restore external balance by reaching point �, thetrade deficit must be neutralized. This requires areduction in the real exchange rate: a realdepreciation (an improvement of competitiveness).
44 16 April 2015
Interpreting the EB function /1
��
�������� �����������
��(����
���ℎ��������)
�
����
������������
���� �� �������������������
� �
�
�′�
��
45 16 April 2015
The external balance (EB) function /2
• If follows from the previous analysis that pointsabove the EB function (excessive domesticexpenditure) generate a trade deficit.
• Below the EB function failure of external balance isnot due to a trade deficit but to trade surplus.
• For instance, at point �, given the correspondinglevel �� of domestic expenditure, the real exchangerate is smaller than the value �′� required to reachexternal balance with ��. That is, the economy istoo competitive and therefore runs a trade surplus.
46 16 April 2015
Interpreting the EB function /2
��
�������� �����������
��(����
���ℎ��������)
47 16 April 2015
The Swan (or Meade-Swan) diagram
• The Swan diagram (due to Trevor W. Swan)combines the IBand EB functions.
• It separates the plane into four regions.
In region I, the economy experiences unemploy-ment and trade deficit (Spain, Egypt, Poland).
In region II, inflation coexists with a trade deficit(Brazil, Turkey, Colombia, Morocco).
In region III, there is inflation and a tradesurplus (China, Russia, Korea).
In region IV, the economy has unemploymentand runs a trade surplus (Hungary, Slovakia).
48 16 April 2015
The Swan diagram in action
• Suppose the economy is in Region I and, specifi-cally, around the numeral “I” in “Region I”.
• At that point, the economy has unemployment. Itmay appear that more expenditure is needed toreduce unemployment.
• The diagram suggests that the unemploymentproblem this economy faces is not solved by chan-ging expenditure (increasing it) but by shiftingexpenditure. To reach the intersection of the IB andEB lines, domestic expenditure must be reducedand net exports increased (through depreciation).
49 16 April 2015
5. Involuntary unemployment
• Involuntary unemployment occurs when, at theprevailing wage rate in the economy, there arepeople willing to work but are not given a job.
• The models developed next illustrate basic reasonsfor the existence of involuntary unemployment:
“too high” wage rates (classical explanation);
insufficient labour demand, due to insufficientaggregate demand (Keynesian explanation);
existence of market power (trade unions);
existence of labour discrimination; and
structural reasons (last model).
50 16 April 2015
The classical labour market model /1
�� = ������������
�� = ������������
�� ��(������)
�(������������)
�����������������
�*
������−����������������� �*�����������
����������
�������������� ������ ����������
���������
������������
51 16 April 2015
The classical labour market model /2
• It is a standard competitive model in which “price”is represented by the real wage � (the nominal wa-ge W divided by some price level P) and “quantity”is labour (labour supplied and demanded).
• The higher , the higher the labour supply �� (upto the maximum labour that can be supplied: theeconomically active population �� ). The laboursupply function is therefore increasing.
• The labour demand function is decreasing: thehigher , the lower the labour demand ��.
52 16 April 2015
Competitive labour demand /1
• A labour demand function can be constructed asfollows. Take any firm using labour � to produce acertain commodity � by means of the productionfunction � � that establishes the total amount of �that can be produced using � units of labour.
• Define the firm’s profit function as � � = � ·� � − � ·�, where � is the amount of labour thefirms hires, � is the price at which the firm sells �(in a competitive market for � ), and � is thenominal wage (the cost of hiring each unit oflabour).
53 16 April 2015
Competitive labour demand /2
• Suppose the aim of the firm is to choose � tomaximize the profit function. Assuming thefunction �(�) differentiable, the first order condi-
tion for a maximun is��(�)
��= 0. Since the firm is a
price taker in the commodity market,
• The derivative��(�)
��is the marginal product of
labour (MPL). Therefore, ��� � = �/� implicitlydefines the firm’s labour demand function.
��(�)
��= � ·
��(�)
��− � = 0 .
54 16 April 2015
Competitive labour demand /3
• ��� � is typically supposed to be decreasing: themore labour is hired, the smaller the contributionthat the last unit makes to production (eachadditional unit of labour is less productive).
• As a result, when represented graphically in the
space (�
�, �), the function
�
�= ��� � is decrea-
sing. This says that the firm hires labour until itsmarginal product coincides with the real cost of
hiring labour (the real wage�
�). Equivalently,
labour is paid according to the value of its marginalproductivity: � = � ·��� � .
55 16 April 2015
Example
• If � � = 2 ·��/�, ��� � =��(�)
��= 2 ·
�
�· �
�
��� =
���/� =�
��/�. The firm’s labour demand function is
��� � =�
�
• Therefore,�
��/�=
�
�. Solving for �,
� =1
�/� � �� � =
��
��
• Since��
� �/�= −
�
�/� � < 0, the demand for labour
is a decreasing function of the real wage �/�.
Labour demandstimulated by arising price ofthe product or afalling wage rate
.
56 16 April 2015
Equilibrium in the labour market
• Since the labour demand of each firm is inverselycorrelated with a certain wage rate, one may jumpto the conclusion that the aggregate demand forlabour in an economy is inversely correlated withthe economy’s real wage.
• The equilibrium real wage rate �* is such thatlabour supplied at �* equals labour demanded at�*. Given �*, there is no involuntary unemploy-ment: everyone willing to get hired at �* is hired.The difference �� − �* can be viewed as voluntary
unemployment (�∗�� would be the participation rate).
57 16 April 2015
Unemployment in the classical model /1
• Establishing a mininum real wage ���� above theequilibrium wage rate �* generates involuntaryunemployment in a competitive labour market.
• The next slide illustrates this possibility. Marketequilibrium occurs at point �. If the minimumwage rate ���� is set, the market state is no longerrepresented by � but by �: although workers arewilling to be at �, firms cannot be forced to hiremore workers than the amount given by �.
• At the prevailing wage rate ���� there is an excesssupply, interpreted as involuntary unemployment.
58 16 April 2015
Unemployment in the classical model /2
��
�
�����
����������� ������������
�
�
��
��
�(������������)
59 16 April 2015
Unemployment in the classical model /3
• Involuntary unemployment in a competitive labourmarket may also temporarily arise if the real wagerate adjusts sluggishly.
• The next slide illustrates this situation. Marketequilibrium occurs initially at �, with wage rate ��.The demand for labour function shifts to the left.The new equilibrium would be represented by �.
• But if the real wage rate takes time to adjust (de-crease), the wage rate in the market may tempora-rily remain at the initial level ��. The market isthen at �, where involuntary unemployment exists.
60 16 April 2015
Unemployment in the classical model /4
��
��
�
���
�����������������������
�
�
�′�
��
��
���������������������
�(������������)
61 16 April 2015
An atypical example /1
• Suppose the �� function combines a flat with anupward sloping section, as shown in the next slide.
• The flact section at real wage �* could be interpre-ted in the sense that, when the real wage is �*, (i)workers are, in principle, indifferent betweensupplying labour or not, and (ii) some randomvariable determines the amount actually supplied.
• Market equilibrium occurs at � , where employ-ment is �*. If workers finally choose to supply �′(effective labour supply represented by �), there isinvoluntary unemployment given by ��− �*.
62 16 April 2015
An atypical example /2
��
��
� (������)
�(������������)
��*
�*
�����������
������������
��� �� ������������
������ ������
�
�′
�
�′′
63 16 April 2015
(Derived) demand for labour
• Firms do not hire workers because they aim ataccumulating workerts. The labour forces is a toolto produce commodities and obtain a profit byselling the commodities produced.
• For that reason, it is said that the demand forlabour by firms is a derived demand: it arises as anintermediate step in the process of reaching thefirms’ final goal, which is making profits.
• Hence, the demand for labour crucially depends onsales expectations: no matter how “cheap” labouris, workers will not be hired if firms do not expectto sell what these workers would produce.
64 16 April 2015
Supply-side market power: unions /1
• The monopsony analysis shows that demand-sidemarket power generates less employment andlower wages than perfect competition.
• Supply-side market power is typically associatedwith the existence of trade unions. For any givenamount of labour �, the wage rate unions demandto supply � will be higher than the wage ratedictated by the supply of labour function.
• This follows from the fact that unions (since theycan organize strikes) have more bargaining powerover wages than individual workers.
65 16 April 2015
Supply-side market power: unions /2
• As a result, the function ������ � associating witheach amount of labour � the wage rate that unionswill ask to be willing to supply � must lie abovethe supply of labour function.
• The next slide combines the function ������ � witha competitive labour demand function ��. Withouttrade unions, market equilibrium is at �. Withunions market equilibrium is at �. The distancebetween � and � represents involuntary unemploy-ment: given wage �� , workers would individuallylike to supply �� but the presence of the union onlyallows �� to be hired.
66 16 April 2015
Supply-side market power: unions /3
��
� (������)
�(������������)
�
��
�� ��
�������
��
�����������
������������
�
��
�
��
67 16 April 2015
Fighting involuntary unemployment
• When the wage is “too high”, the obvious solutionto get rid of unemployment is to lower the wage(or let time pass by for the wage to adjust by itself).
• When unemployment is due to lack of labourdemand, the natural solution is an aggregatedemand expansion that induces firms to hire moreworkers to satisfy the additional demand.
• When the cause of unemployment is market power(unions), the solution seems harder to implement:how to reduce the unions’ bargaining powerwithout raising protests by part of the workers?
http://en.wikipedia.org/wiki/Trade_unions_in_the_United_Kingdom
68 16 April 2015
Price setting & wage setting model /1
• In modern economies, the nominal wage rate of asubstantial number of workers is determinedthrough collective bargaining involving unions.
• If workers are represented by unions, at any levelof employment, the real wage will be above thewage rate dictated by the labour supply function.
• It is assumed that unions establish the real wageusing a wage setting function �� sloping upwardand lying above the labour supply function ��. Thehigher the unions’ bargaining power, the larger thevertical distance between between �� and ��.
69 16 April 2015
Price setting & wage setting model /2
• Whereas workers (through unions) are assumed toset the nominal wage, firms are supposed to fix theprices of the commodities they produce.
• A simple price setting rule consists of adding a
mark-up ��> 0 to labour costs: � = 1+ �� ·�
���.
• � is measured in money (EUR)and ��� in units
of product per worker. Thus,�
� ��is the money paid
to workers divided by what they produce. In other
words,�
� ��is the (labour) cost of producing a unit
of the commodity.
70 16 April 2015
Price setting & wage setting model /3
• It follows from � = 1+ �� ·�
���that
�
����·��� =
�
�. As ��> 0,
�
����< 1. Therefore, for some � > 0,
�
����= 1 − �. Thus, 1 − � ·��� =
�
�. In sum,
��� = �
� + � ·��� .
• � is then a mark-up over output: the fraction of theworkers’ productivity that the firm appropriates.
productionper worker
real wageper worker
real profitper worker
71 16 April 2015
Price setting & wage setting model /4
• Under perfect competition in the labour and
product markets,�
�= ���.
• When prices are set by firms as the marking up of
labour costs per worker,�
�= 1 − � ·���. This is
called the price setting function �S. As 0 < � < 1,�
�= 1 − � ·��� means that
�
�< ���.
• As the ��� function is downward sloping, the ��function is downward sloping as well. �� liesbelow ��� because �� is a fraction of ��� (theconstant 1 − � is smaller than 1).
72 16 April 2015
The WS and PSmodel
��
� (������)
�(������������)
�
��
�� ��
���
��
��
�����������
�������������
��
73 16 April 2015
Example
• Supply of labour function: ω =�
�·� (ω is the real
wage rate).
• ��� function: ��� = 20 − 5 ·�.
• Demand for labour function: ω = ���.
• �� function: ω = 3 ·�.
• �� function: ω = 1 − � ·���, with � = 0.4.
• Competitive solution:�
�·� = 20 − 5 ·� � = 3
and ω = 5.
• �� - �� solution: 3 ·� = 0.6 ·��� 3 ·� =0.6 ·(20 − 5 ·�) � = 2 and ω = 6.
74 16 April 2015
Segmented labour market model
• Suppose workers may have or not someeconomically irrelevant feature that firms may likeor not (for instance, being a man or not).
• Firms classify workers in two types (I and II)depending on whether they possess the feature ornot. Some firms (type I firms) prefer type Iworkers; the rest (type II) prefer type II workers.
• Each type of firms defines a different (competitive)labour market. Workers are unaware of the factthat there are two types of firms. From theirperspective, the labour market is not segmented.
75 16 April 2015
Example /1
• Supply of labour function of type I workers:��� = 4 ·ω (ω is the real wage rate).
• Demand for labour function of type I firms:
��� = 60 − 2 ·ω (��
� = 0 if ω > 30).
• Market equilibrium (type I): ��, ω � = (40, 10).
• Supply of labour function of type II workers:���� = 12 ·ω .
• Demand for labour function of type II firms:
���� = 80 − 4 ·ω (���
� = 0 if ω > 20).
• Market equilibrium (type II): ���, ω �� = (60, 5).
76 16 April 2015
Example /2
•��
�����=
�
�= 40% of employment corresponds to
type I workers and��
�����=
�
�= 60% to type II.
Using these weights, the average real wage rate
would be ω� =�
�·ω � +
�
�·ω �� =
�
�·10+
�
�·5 = 7.
• At ω� = 7, no more type I workers than are actuallyemployed would like to be hired. But, at ω� = 7,type II workers would like to supply ��
�� = 12 ·ω� =84. Since employment of type II workers equals��� = 60, involuntary unemployment appears to be���� ω� = 7 − ��� = 84 − 60 = 24 (unemployment
rate = 24 24+ �� + ��� = 19.3%⁄ ); see next slide.
77 16 April 2015
��(���� �������)
�(���� ���� ����)
�
ω�
40
�����������
������������
�
���(���� ��������)
10
30
60
���
���
60
5
���� ��
��
= 7
20
84
24
���� ���������
���� ��������
Though each segment is in equilibrium, there is a sense in which involuntary unemployment exists.
