Here is an Economics version of "That 70's Show"--This episode is about the divergence of the actual rate of unemployment from the Natural Rate of Umemployment. See Donna's analysis here!

Well, not Donna, but...Jared Bernstein, former Economic Advisor to President Obama, has a nice analysis on why middle class wages have stagnated over time.  It is useful to the study of AP Macroeconomics in that it uses the concepts of Productivity, Unemployment and the NAIRU ("Non-Accelerating Inflation Rate of Unemployment"). In class, I use a simplified version of this---just the NRU ("Natural Rate of Unemployment").

The NRU or NAIRU is, given current conditions, the lowest unemployment rate an economy can reach WITHOUT triggering inflation. If the actual unemployment rate observed in the economy equals the NRU, then the economy is said to be at full-employment.  You can see from the first graph below (the BLUE line) that the NRU has hovered consistently between 5% and 6% since 1949. The RED line represents the actual unemployment rate at a given time. 

When the actual unemployment rate goes below the NRU, this means there is a relative scarcity of labor (skilled and unskilled, but skilled is probably more relevant) in the marketplace. Wages tend to increase during this period of time. When the actual unemployment rate goes above the NRU wages tend to stagnate because there is a relative surplus of labor available in the marketplace.  What do you notice about the trend between the NRU and the actual unemployment rate over time? 


Source: Jared Bernstein

This was pretty amazing to me.  In the above graph, examine the two lines before 1979 and after. Look at the chart below. Prior to 1979 the economy spent more time at or below the NRU and after 1979 more time at or ABOVE the NRU.    

Source: Jared Bernstein

Wage and employment gains primarily come through gains in productivity. Productivity is defined as the amount of output a worker produces in an hour of work.  If a worker produces more output in a labor hour it is generally due to  (1) enhanced skills (education and/or training), (2) production efficiencies through improved processes, or (3) using new/improved tools/capital equipment. 

Two things SHOULD happen as a result--1. Workers produce more, the business makes more money, the workers get paid more (2) Workers produce more, the business makes more money and they hire more workers.

As you look at the graph below, remember--productivity gains should translate into income gains for workers....

Source: Jared Bernstein

Pretty shocking, isn't it? Prior to 1979 wage growth keep up with worker productivity.  After 1979 wage growth was stagnant relative to gains in productivity.   

What went on in the mid-1970's to change this?  If my friend over at The New Arthurian Economics is reading this, I THINK he has the answer.. Try HERE and HERE to get started...

Nice graph showing the Natural Rate of Unemployment vs Actual Unemployment overtime...Yes, it IS important!!

Below you will find a graph showing the Natural Rate of Unemployment vs the Actual Rate of Unemployment over time.  The Natural Rate of Unemployment (aka NRU) is the sum or Frictional Unemployment and Structural Unemployment the economy.  These two categories of unemployment are always present and the goal is to minimize them, especially Structural.  Structural unemployment is serious and poses many problems. Workers are unemployed because their skills have been rendered obsolete, primarily through advancements in technology and production process.  These workers tend to be unemployed for longer periods of time and need to undergo re-training to acquire relevant skills.  It is feared that the Natural Rate of Unemployment is going to increase because of an increase in the number of workers who fall into the Structurally unemployed category.  This could describe between 2 and 3 million people!! How do we solve THAT problem?? Ideas?

Cleveland Federal Reserve

The Natural Rate of Unemployment---Europe vs. US

Here is Labour peer and happiness economist Lord Layard on the cause of long-term unemployment in Europe:

"Europe has a notorious unemployment problem. But if you break down unemployment into short-term (under a year) and long-term, you find that short-term unemployment is almost the same in Europe as in the U.S. – around 4% of the workforce. But in Europe there are another 4% who have been out of work for over a year, compared with almost none in the United States. The most obvious explanation for this is that in the U.S. unemployment benefits run out after 6 months, while in most of Europe they continue for many years or indefinitely."

Hat tip to the Tim Worstall at the Adam Smith Institute.