Economics 2 Professor Christina Romer Spring 2017 Professor David - - PDF document

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Economics 2 Professor Christina Romer Spring 2017 Professor David Romer LECTURE 19 EMPLOYMENT AND UNEMPLOYMENT IN THE LONG RUN April 4, 2017 I. O VERVIEW II. E MPLOYMENT AND P OTENTIAL O UTPUT A. Effects of an increase in N*/ POP B. Effects

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Economics 2 Professor Christina Romer Spring 2017 Professor David Romer LECTURE 19 EMPLOYMENT AND UNEMPLOYMENT IN THE LONG RUN April 4, 2017 I. OVERVIEW

  • II. EMPLOYMENT AND POTENTIAL OUTPUT
  • A. Effects of an increase in N*/ POP
  • B. Effects of an increase in POP
  • III. DETERMINANTS OF THE NORMAL EMPLOYMENT-TO-POPULATION RATIO AND THE

NORMAL REAL WAGE

  • A. Review and modification of labor supply/ labor demand diagram
  • B. Change in workers’ tastes (Married women)
  • C. Change in labor demand (Low-skilled males)
  • D. Incentives (Marginal tax rates)
  • E. The large rise in real wages over time
  • IV. THE NATURAL RATE OF UNEMPLOYMENT
  • A. Definition
  • B. Job rationing
  • C. Job search

V. APPLICATION: EUROPEAN UNEMPLOYMENT

  • A. Facts
  • B. Candidate Explanations
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LECTURE 19

Employment and Unemployment in the Long Run

April 4, 2017

Economics 2 Christina Romer Spring 2017 David Romer

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SLIDE 3
  • I. OVERVIEW
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SLIDE 4

Aggregate Production Function

(1) (2) (3)

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SLIDE 5
  • II. EMPLOYMENT AND POTENTIAL OUTPUT
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Decomposition of Potential Output per Person

where:

  • Y* is potential output;
  • POP is population;
  • N* is normal employment.
  • is the normal employment-to-population ratio.
  • is normal average labor productivity.
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Employment-to-Population Ratio in the U.S.

Source: Frank, Bernanke, Antonovics, and Heffetz, Principles of Economics.

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Source: Charles Jones and Dietrich Vollrath, Economic Growth.

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Employment and Potential Output

  • Increases in will raise .
  • But, the effect is limited:
  • can’t vary very much.
  • There are countervailing effects on average

labor productivity: An increase in POP for a given lowers because it reduces .

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  • III. DETERMINANTS OF THE NORMAL

EMPLOYMENT-TO-POPULATION RATIO

AND THE NORMAL REAL WAGE

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The Labor Market

S D w N

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Long-Run Labor Market Diagram

S D (MRPL/P) Real Wage, w* w1

∗

N* N1

∗

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SLIDE 13

Labor Force Participation Rate, Women, U.S., 1962–2017

Source: FRED.

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SLIDE 14

Source: Claudia Goldin, “Gender Gap,” The Concise Encyclopedia of Economics.

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An Increase in Labor Supply (Women in the U.S.)

S1 D1 (MRPL/P) Real Wage, w* w1

∗

w2

∗

N* N1

∗N2 ∗

S2

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SLIDE 16

Labor Force Participation Rate, Women, U.S., 1962–2017

Source: FRED.

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Female Labor Force Participation Rate in the U.S., the U.K., and Japan

Source: Organisation for Economic Co-operation and Development (OECD).

50 55 60 65 70 75 1971 1975 1979 1983 1987 1991 1995 1999 2003 2007 2011

U.S. U.K. Japan

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SLIDE 18

Labor Force Participation Rate – High School Graduates, No College, 25 yrs. & over, Men, 1992–2017

Source: FRED.

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SLIDE 19

A Fall in Labor Demand (Less Educated Men)

S1 D1 Real Wage, w* N* w1

∗

w2

∗

N2

∗ N1 ∗

D2

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SLIDE 20

Average versus Marginal Income Tax Rates

  • Average tax rate: Total income tax/total income.
  • Marginal tax rate: The tax paid on an additional

dollar of income.

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Labor Supply When There Are Taxes

  • Think of a household choosing between leisure

and everything else that it likes.

  • Recall: Condition for utility maximization:

MULeisure MUEverything Else PLeisure PEverything Else

  • What is PLeisure? That is, what is the opportunity

cost to the household of consuming 1 more unit of leisure?

  • PLeisure = (1 − t)•wage, where t is the marginal tax

rate. =

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SLIDE 22

A Reduction in the Marginal Tax Rate

S1 D1 (MRPL/P) Real Wage, w* w1

∗

w2

∗

N* N1

∗N2 ∗

S2

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Real Wages in the U.K. over the Very Long Run

From: Clark, “The Condition of the Working Class in England, 1209-2004”

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Large Increases in Capital and Improvements in Technology

S1 D1 Real Wage, w* w1

∗

N* N1

∗ N2 ∗

D2 w2

∗

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SLIDE 25
  • IV. THE NATURAL RATE OF UNEMPLOYMENT
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The U.S. Unemployment Rate, 1948–2017

Source: FRED; data from Bureau of Labor Statistics.

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Unemployment in the U.S., Japan, and France

Source: FRED.

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The Natural Rate of Unemployment

  • The economy’s normal or usual unemployment

rate.

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Types and Sources of Unemployment

  • Cyclical unemployment
  • Caused by output being below potential
  • Structural unemployment
  • Caused by job rationing
  • Frictional unemployment
  • Caused by turnover and job search

Normal or natural unemployment consists of structural and frictional unemployment.

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Job Rationing

S D (MRPL/P) Real Wage, w* w1

∗

N* ND

∗ N1 ∗ NS ∗

w

  • Structural

unemployment

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Sources of Job Rationing

  • Minimum wage laws
  • Unions
  • Efficiency wages
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Frictional Unemployment

  • It takes time to match workers and jobs.
  • At the micro level, the economy is constantly

changing.

  • As a result, at any time there are both

unemployed workers and job vacancies.

  • This process is sometimes described as “churn.”
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  • V. APPLICATION OF OUR LONG-RUN LABOR MARKET

FRAMEWORK: EUROPEAN UNEMPLOYMENT

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Unemployment in the Euro Area (blue), Germany (red), and Italy (green), 1993–2016

Source: OECD.

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SLIDE 35
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Some Candidate Sources of High Natural Rates

  • f Unemployment in Europe
  • Measurement issues
  • High minimum wages and strong unions
  • High payroll taxes
  • High firing costs
  • High marginal tax rates
  • Generous unemployment compensation
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SLIDE 37
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A Wage Floor

S D Real Wage, w* N* ND

∗ NS ∗

w

  • Unemployment
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Payroll Taxes, Selected Countries

Source: Wall Street Journal.

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High Payroll Taxes in the Presence of Job Rationing

S1 D1 Real Wage, w* N* ND2

∗ ND1 ∗ NS ∗

w

  • Unemployment2

D2

Unemployment1

Tax

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Firing Costs: The Example of Italy

“The laws are so unclear that many dismissals of workers end up in the country’s dysfunctional court system, where if a judge decides a worker was let go unfairly, he will likely rule that the employer has to reinstate him with back pay for the time he was gone. ‘When an investor asks about severance costs, all the

  • ther countries can provide an answer,’ says Pietro

Ichino, an Italian senator and professor of labor law at the University of Milan. ‘Italy can’t.’ Duccio Astaldi, president of Condotte, one of Italy’s largest construction companies, says the difficulty of firing

  • ften prevents him from hiring when times are good.”

Source: “Italy’s Labor Pains,” BusinessWeek, 11/16/2011.

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Firing Costs (in the Presence of Job Rationing)

D1 Real Wage, w* N* ND2

∗ ND1 ∗ NS ∗

w

  • Unemployment2

D2

Unemployment1

S1

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SLIDE 43

Source: OECD.

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Problems with the High Marginal Tax Rate Explanation of High European Unemployment

  • A better candidate explanation for low

employment than for high unemployment.

  • Marginal tax rates are not dramatically higher in

Europe than in the U.S.

  • The evidence indicates that labor supply responds

to marginal rates, but that the responsiveness is small.

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Maximum Duration of Unemployment Insurance Benefits, 2005

Source: New York Times; data from the OECD.

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Generous Unemployment Compensation

D1 (MRPL/P) Real Wage, w* w1

∗

N* N2

∗ N1 ∗

S1 S2 w2

∗