essential economics: causes of unemployment

Topic: Causes of Unemployment

Download a printable version of this revision note

Candidates should understand both demand side and supply-side causes of unemployment. They should be able to assess the impact of policies designed to increase the flexibility of the labour market.

The British economy has enjoyed more than a decade of falling unemployment which has left it with one of the lowest recorded unemployment rates among the leading OECD nations. Employment is currently at a record high and in some regions of the country a situation of effective full-employment has been achieved.

The measurement issue

Unemployment is a count of jobless people who want to work, are available to work, and are actively seeking employment. The Labour Force Survey measure is a sample, whereas the claimant count measures only those people who are claiming unemployment-related benefits (Jobseeker's Allowance). It is always the lower measure because some unemployed people are not entitled to claim benefits, or choose not to do so. The gap between the LFS and claimant count measure has widened because of the strong level of employment. When labour demand is high, more people start looking for work who previously had not claimed the Jobseeker’s Allowance. This increases the LFS measure of unemployment.

Explaining the reduction in UK unemployment

Claimant count unemployment is now at its lowest level since the mid 1970s. There has been a similar reduction in the labour force survey measure. Many factors explain the reduction in unemployment – some of them are demand-side explanations and others are the result of supply-side improvements to the labour market

Demand side factors:

Sustained growth of real national output – the economy has now achieved fifty consecutive quarters of positive real GDP growth. And the annual rate of growth has been strong enough to create enough new jobs to absorb the rising number of people coming into the labour market. Although the UK experienced a slowdown in 2002-03, growth remained positive and employment continued to expand.
Rising levels of public sector employment – a fast growth of real government spending in priority areas such as education and health has led to an increase in public sector recruitment – employment in public and private sector health sectors has climbed by over 500,000 since 1993
Employment creation from inward investment from overseas multinationals
Strong growth of employment in business and financial services – nearly half a million extra jobs in the last ten years in these two sectors of the economy. Many thousands of extra jobs too in distribution and communication industries – the continued expansion of the service sector has offset the loss of jobs in manufacturing industry and primary sectors.

Supply-side factors:

Attention focuses on improvements to the occupational and geographical flexibility of the UK labour market – something that has been high on the policy agenda of successive governments for the best part of twenty years.

New Deal – introduced in April 1998, designed to reduce long term unemployment and to raise employment levels among young people and single parents. Compulsory participation for all who have been out of work continuously for > six months

19% have moved into subsidised employment; 40% into education and training programmes; 20% in schemes run by voluntary organisations and 20% into environmental taskforces
Some evidence that New Deal has boosted employment rates – but cost per new job filled is high
Main effect has been to shift people back into education – long term human capital effects
Difficult to be precise about the medium term effects of New Deal at a time when the British economy has been expanding anyway

Long term investment in education and training – this is really a slow-burner idea, that more resources on student education and workplace training will increase the human capital of the workforce and help to close the skills gap with other countries. A recent policy is the educational maintenance allowances for students staying on in post-16 education.
Tax and benefit reforms – in recent years the government has introduced a lower starting rate of income tax and welfare reforms such as in-work benefits (The Working Families Tax Credit) designed to increase the incentive to search for and find paid work. The national minimum wage is also an attempt to encourage people to take a job where one is available. Again the precise effects of this are hard to identify – but the main aim is to increase the financial benefits of working as opposed to remaining on state welfare benefits.

In summary:

The UK now has a very low unemployment rate, among the lowest in Europe
The labour market is flexible causing a fall in equilibrium unemployment (the so called natural rate)
There are still major problems with variations in regional unemployment
The service sector is the dominant employer in the UK , less than 3.5 million now work in manufacturing
The true test of the flexibility of the labour market will come when the economy hits a new recession

Other A2 Economics Essential Revision Notes:

Business Objectives

Causes of Unemployment

Current Account Deficits

Economies of Scale & Scope

Globilisation & the UK

Manufacturing Industry in the UK

Phillips Curve

Pricing Power

Working with Our Partners

Company Registration Number: 04489574 | VAT Reg No 816865400

tutor2u is proud to sponsor TABS Cricket Club and Collingham JFC as part of its programme of investment in local junior sport