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Understanding US Labor Market Dynamics

Analyzing labor market statistics and trends in the US, including unemployment rates, participation rates, employment ratios, and average duration of unemployment spells. Exploring frictional and structural unemployment to determine the "natural rate" of unemployment.

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Understanding US Labor Market Dynamics

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  1. Labor Markets Determining Output and Employment

  2. Labor Market Statistics • The labor market is a very dynamic market. This makes it difficult to characterize.

  3. Labor Market Statistics • The labor market is a very dynamic market. This makes it difficult to characterize. • Recall, Each month, the Department of Labor surveys 60,000 households. Each household is placed in one of four categories • Under 16 or institutionalized (or military) • Choose not to work: Not in Labor Force • Choose to work and are working: Employed • Choose to work, but can’t find a job: Unemployed • Each month, people move between these four categories.

  4. US Labor Market Facts • US Population: 290M • Civilian Population (16+): 220M • Civilian Labor Force: 147M • Civilian Employment: 139M • Unemployment: 147M – 139M = 8M

  5. US Population: 290M Civilian Population (16+): 220M Civilian Labor Force: 147M Civilian Employment: 138M Unemployment: 147M – 138M = 9M Participation Rate (147M/220M)*100 = 66% Labor Market Statistics

  6. US Population: 290M Civilian Population (16+): 220M Civilian Labor Force: 147M Civilian Employment: 139M Unemployment: 147M – 139M = 8M Participation Rate (147M/220M)*100 = 66% Employment Ratio (138M/220M)*100 = 62% Labor Market Statistics

  7. US Population: 290M Civilian Population (16+): 220M Civilian Labor Force: 147M Civilian Employment: 139M Unemployment: 147M – 139M = 8M Participation Rate (147M/220M)*100 = 66% Employment Ratio (138M/220M)*100 = 62% Unemployment Rate (8M/147M)*100 = 5.4% Labor Market Statistics

  8. US Population: 290M Civilian Population (16+): 220M Civilian Labor Force: 147M Civilian Employment: 138M Unemployment: 147M – 138M = 9M Participation Rate (147M/220M)*100 = 66% Employment Ratio (138M/220M)*100 = 62% Unemployment Rate (8M/147M)*100 = 5.4% ER = (1-UR)*PR Labor Market Statistics

  9. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Labor Market Statistics

  10. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average Duration In 1 year, how many people are unemployed for 5 wks? Labor Market Statistics

  11. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average Duration In 1 year, how many people are unemployed for 5 wks? (52/5)*3M = 31.2M Labor Market Statistics

  12. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average Duration In 1 year, how many people are unemployed for 5 wks? (52/5)*3M = 31.2M For 10 wks? (52/10)*3.5M = 18.2M Labor Market Statistics

  13. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average Duration In 1 year, how many people are unemployed for 5 wks? (52/5)*3M = 31.2M For 10 wks? (52/10)*3.5M = 18.2M For 20 wks? (52/20)*2.5M = 6.6M Labor Market Statistics

  14. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average Duration In 1 year, how many people are unemployed for 5 wks? (52/5)*3M = 31.2M How many people are unemployed for 10 wks? (52/10)*3.5M = 18.2M For 20 wks? (52/20)*3.5M = 6.6M AD = (31.2/56)*(5wks) + (18.2/56)*(10wks) + (6.5/56)*(20wks) =8.45wks Labor Market Statistics

  15. Most unemployment spells in the US are short. Unemployed: 9M <5 WKS: 3m 5-15WKS: 3.5m >15 wks: 2.5m Average duration in the US is approx. 13wks Average Duration In 1 year, how many people are unemployed for 5 wks? (52/5)*3M = 31.2M How many people are unemployed for 10 wks? (52/10)*3.5M = 18.2M For 20 wks? (52/20)*3.5M = 6.6M AD = (31.2/56)*(5wks) + (18.2/56)*(10wks) + (6.6/56)*(20wks) =8.45wks Labor Market Statistics

  16. What’s “Normal” in the Labor Market?

  17. What’s “Normal” in the Labor Market? Frictional Unemployment: Currently unemployed, but in the process of getting a job (i.e., short term unemployment): Approx. 3.5%

  18. What’s “Normal” in the Labor Market? Frictional Unemployment: Currently unemployed, but in the process of getting a job (i.e., short term unemployment): Approx. 3.5% + Structural Unemployment (chronic unemployment): 1.5%

  19. What’s “Normal” in the Labor Market? Frictional Unemployment: Currently unemployed, but in the process of getting a job (i.e., short term unemployment): Approx. 3.5% + Structural Unemployment (chronic unemployment): 1.5% “Natural Rate of Unemployment”: 5%

  20. What’s “Normal” in the Labor Market? Frictional Unemployment: Currently unemployed, but in the process of getting a job (i.e., short term unemployment): Approx. 3.5% + Structural Unemployment (chronic unemployment): 1.5% “Natural Rate of Unemployment”: 5% • Given the current unemployment rate of 5.4%, we currently have a cyclical unemployment rate of .4%

  21. US Unemployment Rate: 1990-2002

  22. Is the “Natural Rate” Growing?

  23. The cost of unemployment • “Capacity Output” of an economy is the level of output associated with full employment (i.e., unemployment is at the natural rate)

  24. The cost of unemployment • “Capacity Output” of an economy is the level of output associated with full employment (i.e., unemployment is at the natural rate) • The “output gap” is the difference between capacity output and actual output

  25. The cost of unemployment • “Capacity Output” of an economy is the level of output associated with full employment (i.e., unemployment is at the natural rate) • The “output gap” is the difference between capacity output and actual output • Okun’s law states that every 1% increase in cyclical unemployment increases the output gap by 2.5%.

  26. The cost of unemployment • “Capacity Output” of an economy is the level of output associated with full employment (i.e., unemployment is at the natural rate) • The “output gap” is the difference between capacity output and actual output • Okun’s law states that every 1% increase in cyclical unemployment increases the output gap by 2.5%. • Therefore, our current .4% cyclical unemployment rate implies an output gap of 1.2% GPD ( Roughly $100B! )

  27. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive

  28. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive (they take wages and prices as given)

  29. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive (they take wages and prices as given) • Firms produce output using three types of input: labor, capital, and technology

  30. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive (they take wages and prices as given) • Firms produce output using three types of input: labor, capital, and technology • Employment decisions are made in the short run

  31. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive (they take wages and prices as given) • Firms produce output using three types of input: labor, capital, and technology • Employment decisions are made in the short run (capital stock is fixed)

  32. Firms and Labor Demand • In our labor market model. Firm’s are assumed to be perfectly competitive (they take wages and prices as given) • Firms produce output using three types of input: labor, capital, and technology • Employment decisions are made in the short run (capital stock is fixed) • Firms choose labor to maximize profits.

  33. Properties of Production • Production is increasing in all inputs (i.e., the more inputs you have, the more output you can produce) • Production exhibits constant returns to scale (doubling all inputs exactly doubles output)

  34. The Production Function (All other inputs are fixed)

  35. Properties of Production • Production is increasing in all inputs (i.e., the more inputs you have, the more output you can produce) • Production exhibits constant returns to scale (doubling all inputs exactly doubles output) • Production exhibits diminishing marginal product (increasing only one input will not proportionately increase output)

  36. Diminishing Marginal Product of Labor • The Marginal Product of Labor is the additional output produced from each additional hour of labor

  37. Diminishing Marginal Product of Labor • The Marginal Product of Laboris the additional output produced from each additional hour of labor • MPL(100) = (190-100)/100 = .9

  38. Diminishing Marginal Product of Labor • The Marginal Product of Laboris the additional output produced from each additional hour of labor • MPL(100) = (190-100)/100 = .9 • MPL(700) = (520-490)/100 = .3

  39. Diminishing Marginal Product of Labor

  40. Properties of Production • Production is increasing in all inputs (i.e., the more inputs you have, the more output you can produce) • Production exhibits constant returns to scale (doubling all inputs exactly doubles output) • Production exhibits diminishing marginal product (increasing only one input will not proportionately increase output) • Capital and Labor are complements (increasing capital makes labor more productive and visa versa)

  41. The Production Function (Increasing Capital Stock)

  42. Diminishing Marginal Product of Labor (increasing capital)

  43. Profit Maximization and Labor Demand • Recall that firms take wages and prices as given, and choose employment to maximize profits.

  44. Profit Maximization and Labor Demand • Recall that firms take wages and prices as given, and choose employment to maximize profits. • Profit maximization requires that Marginal Benefit = Marginal cost

  45. Profit Maximization and Labor Demand • Recall that firms take wages and prices as given, and choose employment to maximize profits. • Profit maximization requires that Marginal Benefit = Marginal cost • The marginal cost of an additional hour of labor is the hourly wage rate (w)

  46. Profit Maximization and Labor Demand • Recall that firms take wages and prices as given, and choose employment to maximize profits. • Profit maximization requires that Marginal Benefit = Marginal cost • The marginal cost of an additional hour of labor is the hourly wage rate (w) • The marginal benefit of an hour of labor is the value of the output produced ( p*MPL )

  47. Profit Maximization and Labor Demand • Recall that firms take wages and prices as given, and choose employment to maximize profits. • Profit maximization requires that Marginal Benefit = Marginal cost • The marginal cost of an additional hour of labor is the hourly wage rate (w) • The marginal benefit of an hour of labor is the value of the output produced ( p*MPL ) • Therefore, profit maximization implies that firms hire labor according to the rule: (w/p) = MPL

  48. Productivity and Labor Demand • Firms hire labor according to w/p=MPL

  49. Productivity and Labor Demand • Firms hire labor according to w/p=MPL • Due to diminishing marginal returns, labor demand is downward sloping

  50. Productivity and Labor Demand • Firms hire labor according to w/p=MPL • Due to diminishing marginal returns, labor demand is downward sloping • Note that an increase in capital increases MPL and, hence, increases labor demand

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