Topic 2. Overview of labor Makets and Employment
National and local labor markets
A national labor market is one in which most job search by employers and firms takes place on a national level. Most job search takes place at a local level in a local labor market. The markets for college professors, top management positions in large corporations, and similar occupations are national labor markets. Secretaries, carpenters, truck drivers, electricians, and lathe operators are employed through local labor markets. A national labor markets exists only when there are few employers and employees in most geographical regions. Local labor markets exist when there are many employers and employees in most geographical regions.
Internal labor markets
An internal labor market is said to exist within a firm if the firm fills higher level positions in the firm primarily by promotion from within the firm. Firms often rely on internal labor markets because:
this reduces hiring and training costs,
it improves employee morale and motivation, and
it reduces the effect of uncertainty (since the firm has already observed worker productivity.
Primary and secondary labor markets
Another distinction that is often used to categorize jobs is that between the primary and secondary labor market. Jobs in the primary labor market are characterized by high wages and stable employment relationships. Workers employed in the secondary labor market receive low wages and experience unstable employment relationships. Examples of jobs in the primary labor market include: accountant, lawyer, teacher, carpenter, and plumber. Workers in fast-food restaurants, gas station attendants, dishwashers, janitors, etc. are employed in the secondary labor market. While primary labor market jobs have obvious advantages, the secondary labor market offers job opportunities that would not be available in the primary labor market to high school and college students, adults engaged in extensive child-care activities, and retired individuals. High school and college students are not likely to find primary labor market jobs during summer vacations or for part-time work during the academic year. Those adults who are "stuck" in secondary labor market occupations because of limited job skills and education, however, are not as pleased with finding their only employment prospects in this sector.
Labor force and unemployment
The labor force consists of all noninstitutionalized individuals aged 16 or above who are either working or actively seeking work. Those who choose to be full-time students, or retire, or withdraw from the labor force for child-rearing purposes, or who give up looking for work are not counted as part of the labor force
Individuals are unemployed only if they are not working for pay at any job and are actively seeking work.
The unemployment rate is defined as:
The unemployment rate generally rises during recessions and falls during periods of economic expansions. When unemployed workers become discouraged and leave the labor force (these workers are called discouraged workers), the measured unemployment rate declines. (To see this, observe that while both the numerator and the denominator in the equation above decline, the fraction declines because the numerator falls by a larger percentage.) Thus, the unemployment rate may decline when the number of discouraged workers rises. Similarly, the observed unemployment rate may increase when discouraged workers become more optimistic about the state of the economy and start looking for work.
Thus, to measure the state of the labor market, it is important to examine movements into and out of the labor force as well as changes in the unemployment rate. A convenient measure of this is provided by the labor force participation rate, defined as:
Typically, the labor force participation rate increases during periods of economic expansion and declines during periods of recession. Note that the changes that occur in the labor force participation rate over the course of the business cycle tend to dampen the fluctuations that occur in the unemployment rate. To see this, note that during a recession, unemployment rises. But because some workers become discouraged, unemployment does not rise by as much as it would if the labor force participation rate were constant. Similarly, during an expansion, unemployment rates decline, but the decline is smaller due to the increase in the labor force participation rate that generally occurs when an expansion occurs.
It is important to know the unemployment rate with the number of people eligible to receive unemployment compensation. While all of those who receive unemployment compensation are legally required to be unemployed, a worker could be unemployed but not eligible to receive unemployment compensation (since eligibility is not available to those who voluntarily quite their job or who have not worked for a long enough time period prior to being laid off).
An examination of unemployment statistics during the past century indicates that unemployment rates in the latter half of the 20th century were, on average, higher than those during the first half of the century. The variation in unemployment rates, however, has been much lower since the end of the Great Depression. The increased level of the unemployment rate may be the result of higher rates of structural unemployment or may be due to the reduced cost of being unemployed (as a result of the introduction of unemployment compensation). The reduced variation in unemployment rates are generally seen to be the result of improvements in macroeconomic policy decisions by the government.
During the past 50 years, the labor force participation rate for males has declined slightly. This is, however, true primarily for relatively young and relatively old males. The decline in male labor force participation rates is due to increased years of educational attainment and retirement decisions.
The labor force participation rate for females has increased rather dramatically during the same period. The largest increase has been for married females (partly because single and divorced females always had relatively high labor force participation rates).
Sectoral pattern of unemployment
The economy is often separated into three basic sectors:
the primary sector (the agricultural sector),
the secondary sector (the industrial sector), and
the tertiary sector (the service sector).
The agricultural sector is called the primary sector because economies must produce enough food for the population to survive before anything else can be produced. For most of the history of our species, most work was devoted to agrarian activities. It is only in recent centuries that the industrial and service sectors have become important. Employment in the primary sector has been steadily declining as a share of total employment. Employment in the service sector has been growing steadily as a share of total employment.
There are two fundamental concepts that have to be considered: the rate of technological improvement in each sector and the income elasticity of demand for the output of each sector. (Income elasticity = % change in quantity demanded / % change in income.)
In the agricultural sector, there has been a rapid pace of technological improvement but the income elasticity of demand is relatively low. Technological change results in increased output per worker and higher income in the economy. Yet, most people do not eat substantially more food when income rises. Thus, increases in productivity in this sector result in a need for fewer workers in this sector. Today, fewer than 3% of the population is employed in the agricultural sector of the U.S. economy.
The service sector has also been characterized by a fairly high rate of productivity growth. The income elasticity of demand for products in this sector, however, is substantially higher than for the agricultural sector. Increased output per worker has been accompanied by increased demand for the output of this sector as income rises (due to productivity increases throughout the economy). For most of this century, the demand for this sector's output was growing at approximately the same rate as productivity was rising. It is only in recent years that productivity has been growing faster than the demand for output in this sector.
In the service sector, productivity growth is relatively low but the income elasticity of demand for service sector output is relatively high. Productivity growth is low in the service sector because labor is an essential ingredient in the quality of the final product. Patients visiting physicians or dentists do not find the experience to be of the same quality if their physicians or dentists rushed through their examinations. Musical groups can increase their productivity in live performances by playing music faster, but it's not likely that this will be perceived as being of the same quality as a normal speed performance. Professors can talk faster to raise productivity, but this is also likely to lower the perceived quality of the service. While computers, improved diagnostic devices, and other changes may increase productivity in the service sector, it's likely that the overall rate of productivity growth will be substantially lower than in other sectors of the economy. As incomes rise (due to overall productivity growth), however, households tend to spend a growing share of their income on education, medical services, restaurant services, motel and hotel services, etc. Since productivity growth in this sector is unable to keep up with the growth in demand, the share of total employment in the service sector must increase.
Nominal and real wages
Nominal wages are not adjusted for inflation and are said to be expressed in terms of "current dollars" (since they are measured in terms of the value of the dollar at that particular time). Real wages are wages that have been adjusted to take into account the effect of inflation. Real wages are expressed in terms of dollars from a given base year and are said to be expressed in "constant dollars."
Some form of price index is used to convert nominal wages into real wages. A price index is constructed using the following formula:
The real price of an item is measured as:
In general, economists assume that individual workers and firms respond to changes in real wages and not nominal wages. Workers are concerned with the purchasing power of their wage over time, not just the number of dollars they receive. For this reason, whenever we refer to wages in the future, we will mean the real wage unless the nominal wage is specifically mentioned.
Wages, earnings, total compensation, and income
There are a few basic:
wage = payment per unit of time
earnings = wage x hours (labor payment over an interval of time, typically a week, month, quarter, or year)
total compensation = earnings + fringe benefits
fringe benefits = payments-in-kind + deferred compensation (where: payments-in-kind include any payments in the form of goods and services such as the use of a company provided car, or employer-provided meals, uniforms, health insurance, or similar benefits; and deferred compensation involves items such as pension plans and other programs that provide payments at some point in the future.)
income = total compensation + unearned income (in practice, when data on income is reported, income is generally measured as: income = earnings + unearned income since researchers generally do not have accurate measures of the value of fringe benefits)