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Curiosity 3.2: Why Is Unemployment So High in Europe?


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Kennedy P. E.
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    and this potential level of output. This difference, called the output gap, can be either positive or negative, depending on whether the economy is in a boom or a recession. During a recession, when unemployment exceeds the natural rate, this gap reflects output lost forever because of a failure to operate at full employment, and so is a popular way of measuring the cost of unemployment to society. Notice in figure 3.2 how large this loss was in 1982 and 1983 when unemployment was quite high. Notice also how figure 3.2 shows clearly the cyclical behavior of the economy, something macroeconomists are keen to explain.
    Some claim that this measure of the cost of unemployment is too facile in that it does not account for the human suffering that unemployment also entails. Although true, this failure of the unemployment measure to capture human suffering is not easily remedied. In contrast to twenty years ago, a much greater fraction of the unemployed are members of the peripheral workforce, consisting of irregular or part-time participants in the job market, rather than skilled adult workers who are the sole breadwinners of their family.
    Media Illustrations
    Example 1
    The unemployment rate moved up to 7.8 percent (seasonally adjusted) in May from April's 7.7 percent, but not because of job losses. Indeed, employment rose by a big 0.6 percent or 700,000 during the month. However, that wasn't as big as . . .
    Why would the unemployment rate be seasonally adjusted?
    Seasonal adjustment removes changes that habitually occur during that month, so as to see if there is any novel change in the unemployment figure.
    Complete the last sentence
    . . . as big as the growth in the labor force—the number of people looking for a job.
    Example 2
    Employment is projected to revive at 3.5 percent per year. Since the trend rate of increase in the labor force is just less than 2 percent per year, that rate would seem to produce a healthy decline in the unemployment rate of 1.5 percentage points per year. Unfortunately, matters are not so simple because, as is by now well understood, the normal official unemployment rate does not include all the sources of slack in the labor market.
    How has the 1.5 percentage point decrease in the unemployment rate been calculated?
    The difference between the 3.5 percent growth in employment and the 2 percent growth in the labor force produces the 1.5 percentage point fall in the unemployment rate.
    Give an example of a "source of slack" referred to in the clip, and explain what impact it would have on the 1.5 percentage point figure.
     
    4—
    The Role of Aggregate Demand
    The purpose of this chapter is to examine the role played by aggregate demand for goods and services in determining the economy's level of national income, and thus explain the heart of the Keynesian approach to macroeconomics. Although this approach has been greatly modified over time, it remains the intellectual foundation of modern views of the macroeconomy, and its implication that government expenditure increases (or tax decreases) can pull the economy out of a recession offered policy activists a rationale for government intervention in the operation of the economy to achieve goals such as full employment.
    With the publication of The General Theory of Employment, Interest, and Money in the midst of the Great Depression, John Maynard Keynes revolutionized macroeconomic thinking in many ways. He introduced a model he thought capable of explaining the existence of prolonged unemployment, something that previous macroeconomic models did not do. He stimulated research on fundamental economic relationships, such as the consumption function (how consumption demand responds to income changes), that had been overlooked. He argued persuasively for the need for government intervention in the operation of the economy, an issue that is still contentious, and he placed the level of aggregate demand for goods and services at center stage of macroeconomic analysis, a position it has maintained to this day, although now in tandem with other macroeconomic variables. Appendix 4.1 at the end of this chapter offers some perspective on Keynes's contribution by describing the classical approach to macroeconomics—the school of macroeconomic thought dominant prior to publication of Keynes's theory.
    Milton Friedman, the leader of a school of thought opposing the Keynesian view of the world, in 1965 said, ''We are all Keynesians now, and nobody is any longer a Keynesian." What he meant was that Keynes had so clearly described the working parts of the modern macroeconomy that whether you agreed with his assessment or not, you had to use his basic ideas even to disagree, which most economists were then—and still are—doing. The purpose of this chapter is to prepare for later macroeconomic analysis by learning these basic ideas, the foundation of macroeconomic thinking.
     

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    Kennedy P. E.
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