In January 2008, the U.S. unemployment rate dropped to 4.9%. Oddly, employment a
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Question
In January 2008, the U.S. unemployment rate dropped to 4.9%. Oddly, employment also fell from the prior month. How was this possible? A country with a civilian population of 90,000 (all over age 16) has 70,000 employed and 10,000 unemployed persons. Of the unemployed, 5,000 are frictionally unemployed and another 3,000 are structurally unemployed. On the basis of this data answer the following questions: What is the size of the labor force? What is the unemployment rate? What is the natural rate of unemployment for this country? Is this economy in recession or expansion? Explain.Explanation / Answer
1) Labor force consists of both employed and unemployed workers, but not the discourage ones. Those workers who are willing to work but are currently not seeking a job are termed as discouraged workers
Discouraged workers were looking for job but now have stopped searching for it though they are still willing for it. When people who were previously searching for jobs, stop looking for them now, they transform themselves from unemployed workers to discouraged workers. Since the US official unemployment rate does not take these workers in calculation, they are not a part of labor force.
As the unemployment rate is calculated by dividing the number of unemployed with the total labor force, these dropped out workers reduce the numerator but cause no change in the denominator. Thus it reduces the unemployment rate.
At the same time employment fell since during the recession employers were still in the process of laying off workers. Their anticipation of continuance of recession forced them to focus on cost cutting. So they continued to fire workers which reduced employment.
Both rates can also fall at the same time if there is a sudden increase in the labor force.
2)
a) Out of the total population of 90,000, civilian labor force consists of both employed and unemployed workers so it accounts for 70,000 + 10,000 = 80,000
b) Now the country has a labor force of 80,000 workers, out of which 10,000 are unemployed. Thus the unemployment rate would be: 10,000/80,000 = 12.5%
c) Natural rate of unemployment is the normal unemployment rate around which the actual unemployment rate fluctuate or hovers. Precisely, it is the sum of frictional and structural unemployment. Total number of frictionally and structurally unemployed workers is 8000 so natural rate of unemployment is 8000/80000 = 10%.
d) Real GDP is below potential GDP (output gap is negative) when unemployment rate is above the natural unemployment rate. This usually happens in the presence of cyclical or any peculiar kind of unemployment other than frictional or structural one. Since rate of unemployment is more than natural rate, output gap is negative so there is a recession.
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