Structural Unemployment & NAIRU

Defining and explaining unemployment is an important lesson in any economics class. A lot of time is spent on differentiating between the different types of unemployment and the solutions to them. A lot of the current focus in the news on unemployment is on the cyclical unemployment created by the recession, with some discussion about how many of the cyclically unemployed are actually shifting to become structurally unemployed. Usually, I use this as point for a discussion on the importance of education, and support for continuing education, so that the structurally unemployed can return to the work force, at a different job with their new skills.

However, there is a second discussion that I should be having with my students about how macroeconmoic policy can reduce the shift from cyclical to structural unemployment. This is one of those discussions that bring together a bunch of ideas from different parts of the course.

Reading today's posts on other blogs clued me into that discussion. The importance of structural unemployment is raised on the Economist "Economics by Invitation" blog (the answer by Mark Thoma is quiet good from the teaching perspective on the role of technology) and the point is followed up by a post on Krugman's blog, where he notes the increase in NAIRU (non-accelerating-inflation rate of unemployment). The problem is that this means higher permanent unemployment, even when the economy recovers.

The important point, and the one where it is crucial to remember the definitions of unemployment, is that structural unemployment will not be measured by the official unemployment numbers. Most people who are structurally unemployed will effectively drop out of the labor force (typically by claiming disability or "retiring").

The other important point here is the output gap, or the difference between potential and actually GDP. The measure of the output gap is an indication of the true depth of the recession since it shows the amount of GDP that could be produced from fully utilizing resources.

The output gap has been a way of noting the severity and length of the current crisis. Projections show that even when the economy is growing again (we are in recovery with growing GDP), it will be a long time until potential output is again equal to actual output. However, with higher structural unemployment, we may close the output gap faster, but be poorer for it. And be permanently poorer because of it.

One big factor in the shift form cyclical to structural unemployment is the length of unemployment. The longer a person is unemployed, the more their skill set declines and the less employable they become. So, the effect of increasing structural unemployment in this current recession is not just a factor technical change in the economy, it is also an effect of the severity of the recession. This is a place where stimulus employment may have a significant long-term effect to lower structural unemployment, hence make us all wealthier in the future.