This blog post focuses on cyclical unemployment among the various types of unemployment, examining its causes and the role of government.
Economics defines unemployment as the state where individuals willing and able to work lack jobs. It posits that rising unemployment causes economic problems, such as a decrease in the quantity of goods and services a society can produce. When the unemployment rate increases, consumers’ purchasing power declines, reducing overall market demand. This leads to decreased corporate sales and shrinking investment, negatively impacting economic growth.
Economics broadly classifies unemployment based on its causes into frictional unemployment, structural unemployment, and cyclical unemployment, proposing solutions related to the government’s role. Frictional unemployment occurs when workers voluntarily change jobs or workplaces during normal economic conditions. Since this does not cause significant economic loss in terms of total output, it does not require substantial government intervention. However, to minimize frictional unemployment, policies are needed to enhance the efficiency of employment information systems and strengthen job matching services.
Next, structural unemployment arises from a mismatch between the skill levels workers supply and those demanded by firms. This can occur when labor demand in specific sectors declines sharply due to changes in industrial structure or technological innovation. Structural unemployment can be addressed through measures like worker retraining, necessitating government policies. To this end, the government must expand vocational education and training programs and implement policies encouraging the acquisition of new skills.
Finally, cyclical unemployment occurs when economic downturns cause business activity to contract, reducing labor demand and leading to lower employment levels. In other words, assuming a state of equilibrium between labor supply and demand in the labor market, when the economy slows and prices fall, firms reduce production, leading to decreased labor demand. Cyclical unemployment can cause greater economic losses in terms of output compared to other types of unemployment, prompting economists to propose various views on the government’s role in addressing it.
First, classical economists view cyclical unemployment as a temporary phenomenon that resolves naturally because price variables like wages and prices act perfectly flexibly in the market. According to them, when prices fall due to an economic downturn while nominal wages—meaning the amount of money workers receive—remain unchanged, the real wage, which is the nominal wage divided by the price level and thus represents the actual value of wages, increases. For example, if prices fall by about 10%, the quantity of goods that can be purchased with the same nominal wage increases by about 10%. This means real wages have risen by about 10% compared to before the price decline. When real wages rise like this, workers who were unemployed due to cyclical unemployment actively seek jobs in the labor market, creating an excess supply of labor. Consequently, workers compete in the labor market, and this competition causes nominal wages to fall elastically. The decline in nominal wages leads to a decline in real wages, bringing real wages back to the same level as before the economic downturn. Ultimately, as nominal wages fall, firms can increase their demand for labor by the same amount. This eliminates the excess supply of labor, and unemployment is naturally resolved. Therefore, classical economists oppose the government’s role in attempting to reduce cyclical unemployment through artificial intervention.
However, Keynesians argue that cyclical unemployment cannot be naturally resolved because price variables like wages and prices do not act perfectly flexibly in the market. That is, even if real wages rise due to falling prices during a recession while nominal wages remain unchanged, the classical school’s expectation of a flexible decline in nominal wages is unlikely to occur. The Keynesian school offers several reasons for this, one being the money illusion phenomenon. The money illusion refers to the phenomenon where workers fail to recognize that their real wages, after a decline in nominal wages due to falling prices during a recession, remain the same as before the nominal wage decrease. Consequently, even when prices fall due to the recession, the money illusion prevents workers from accepting the nominal wage reduction, ultimately keeping nominal wages at levels similar to those before the onset of cyclical unemployment. This results in firms being unable to increase their demand for labor, and unemployment persists. Therefore, Keynesian economics argues that the government must play an active role in reducing cyclical unemployment, such as by increasing the demand for labor through policy. For example, the government can reduce cyclical unemployment by implementing fiscal policy to stimulate the economy and creating jobs in the public sector. Such policies provide direct economic benefits to workers and have the effect of promoting overall economic activity.
In conclusion, unemployment is treated as a significant issue in economics, with its causes and solutions presented differently depending on the school of thought. While frictional and structural unemployment have relatively clear solutions, cyclical unemployment requires diverse approaches depending on the economic situation. Economists propose policies that balance the role of government with market autonomy to solve unemployment problems, which is essential for overall economic stability and growth in society.
