ECON 301: Homework 4

• How to submit
  • You may hand-write or type your answers.
  • You can convert hand-written pages to PDF using simple apps like CamScanner, Office Lens etc. Alternately, there is a scanner available at the Library.
• General guidelines
  • Answers must be clear, concise and legible (if hand-written). They must demonstrate how you arrived at the solution, and make it clear that you understand the underlying concepts.
  • Your submitted work must be original and submitted individually, although you may work in groups to arrive at solutions. Academic integrity is taken very seriously Natural Rate of Unemployment

1. Go to https://fred.stlouisfed.org/ and in the search bar, search for the ‘Noncyclical Rate of Unemployment’ for the US. Describe briefly how the U.S. natural rate of unemployment has evolved over time. Do you think this is related to the job finding and separation rates? Explain why.
2. Macroland is a country where, in a typical month, 20 percent of the unemployed find new jobs. Also, about 2 percent of the employed lose their jobs. For these values, what does the natural rate of unemployment equal?
3. The graph below shows the unemployment rate for the United States, for a set of four European countries, and for Japan during the past 50 years. The rates in the United States and Japan in 2005 were relatively similar, at 5.1 percent and 4.4 percent, respectively. In contrast, the unemployment rate in Europe was substantially higher, at 9.1 percent. This high level has persisted in Europe for the last decades. What can explain the rise of European unemployment during the 70s and 80s and its subsequent persistence? Hint: use theories that explain the natural rate of unemployment.

Figure 1: Unemployment in the United States, Europe, and Japan, 1955–2012

The Dual Labor Market

Consider the following graph which compares the total unemployment rate versus youth unemployment rate in the US and Spain.

Figure 2: Youth vs. Total Unemployment Rate, United States and Spain

1. Why do economists use the term “dual labor market” to describe the situation in Spain? Explain using the information provided by graph.
2. Consider the gap between the total and youth unemployment rates for the two countries. When has this gap broadened, and when has this gap narrowed? Give approximate years, and provide some potential reasons.
3. Why is unemployment predominantly affecting young workers in Spain and other European countries? Provide some potential explanations. (hint: use your own reasoning; you don’t need to be right)
4. Do YOU think the greater insecurity of employment for younger workers has longer term effects? Explain why.
5. Although the US has a less marked dual labor market, its labor market approach (the so called “fire & hire” approach to employment) may also have some unintended side effects. What do you think these might be?

Understanding Shifts in the Natural Rate

Wages and the Natural Rate

Macrotown is a mining town in a remote, mountainous region where the valuable mineral Econominium is found. EconMines is large mining company that has the mineral rights to the entire region, and the entire economy of Macrotown is built around EconMines. For several generations now, the good people of Macrotown have been employed as miners at EconMines, and have acquired the specialized skills necessary for mining Econominium. In the context of this town, answer the following questions.

1. Given that EconMines is the major employer in this region, what kind of power does it have in the labor market? How does this affect the natural rate of unemployment in Macrotown? What about the level of wages? Explain why.
2. The mine workers of Macrotown decide to unionize in order to get a better deal for themselves. How would this affect the natural rate? What about wages for the workers? Explain why.
3. Some youngsters launch a start-up in Macrotown, MacroFutures, to trade in the futures market for Econominium. To bring in the most experienced miners from EconMines to work for them, they offer significantly higher salary than EconMines. What are such wages called? How would such wages affect the natural rate?

Shocks to the Labor Market

Now assume that large reserves of Econominium are found off the coast of Hawaii, resulting in large losses at EconMines, which cause it to shut down. MacroFutures, on the other hand, plays the volatility to its advantage, becomes hugely profitable, and looks to hire many new employees. Based on this new development, answer the following questions.

1. How do such large sectoral shifts (from a primarily mining town to a primarily financial services economy) typically affect unemployment? Explain why with respect to job separation and finding rates.
2. Although MacroFutures is looking to hire, most of the workers in Macrotown are mining experts, and do not have financial service sector skills. Is this frictional or structural problem (think carefully about this; what is the underlying cause for this situation?)?
3. The Mayor of Macrotown calls you for advice to deal with the fact that unemployment is really high in Macrotown, despite having a successful financial services sector which has a huge demand for employees. What would you advise?
4. After a few years, the Mayor of Macrotown notices that the unemployment rate has fallen significantly and returned to initial levels (before EconMines went bust). However, she also observes that a lot of the former miner families in the town don’t have any working adults in them. How would you reconcile these different observations?

Miscellaneous Questions

1. Consider the following two figures. Could you think a possible relation between Union membership and Labor share of GDP.

1. The next graphic shows the transformation of women in the Labor force. Relate it to the definition of unemployment and explain why this change could have impacted the unemployment rate. In addition, relate it to the article by Dr. Diane Coyle, ‘Rethinking GDP’ (Homework 1).

1. Some countries like Israel and South Korea have compulsory military service to young people. How this policy can impact the employment rate? (hint: you can either think that these military are employment by the state or they do not look for a job) Relate this situation to countries which have higher educational levels.