There are two main strategies for decreasing
unemployment –
- Demand side policies to decrease
demand-deficient unemployment (unemployment caused by downturn)
- Supply side policies to
decrease structural unemployment /
(the normal rate of unemployment)
A quick list of policies to
reduce unemployment
1.
Monetary policy –
cutting interest rates to increase and aggregate demand (AD)
2.
Fiscal policy –
cutting taxes for the improvement of AD.
3.
Education and training
to assist in decreasing structural unemployment.
4.
Geographical subsidies
to inspire companies to invest in depressed areas.
5.
Lower minimum wage to decrease
real salary unemployment.
6.
More flexible labor
markets, to make it easier to employ and fire employees.
1.
Fiscal Policy
Fiscal policy can decrease unemployment by helping to increase
aggregate demand and the rate of economic development. The government will want
to follow expansionary fiscal policy. Lower taxes increase disposable profits
and therefore help to increase consumption, leading to advanced aggregate
demand (AD).
With an increase in AD, there will be an increase in Real GDP.
If companies produce more, there will be an increase in demand for laborers and
therefore lower demand-deficient unemployment. Also, with advanced aggregate
demand and strong economic development, fewer companies will go bankrupt
meaning fewer job losses.
Keynes was an energetic advocate of expansionary fiscal policy through
a prolonged recession. He argues that in a recession, resources (both capital
and labor) are idle. Therefore the government should interfere and produce
additional demand to decrease unemployment.
This illustrate an increase in AD causing
higher real GDP.
1. Fiscal policy may
have time lags. E.g., a choice to increase government expenditure may take a
long time to affect aggregated demand (AD)
1. If the economy is close to full volume, an
increase in AD will only cause inflation. 2. In the long run, expansionary
fiscal policy may cause crowding out, i.e. the government increase spending but
because they borrow from the private sector, they have less to spend, and
therefore AD doesn’t increase. However, Keynesians argue crowding out will not
occur liquidity setup.
2.
Monetary policy
Monetary policy would involve cutting interest
rates. Lower rates decrease the cost of borrowing and inspire the people to
spend and invest. This increases AD and should also help to increase GDP and decrease
demand deficient unemployment.
Also, lower interest rates will decrease
exchange rate and make exports more competitive.
In some cases, lower
interest rates may be ineffective in boosting demand. In this case, Central
Banks may resort to Quantitative easing. This is an attempt to increase the
money supply and boost aggregate demand. See: quantitative easing.
Evaluation
- Similar problems to fiscal
policy. e.g. Depends on other
components of AD.
- Demand side policies can
contribute to reducing demand deficient unemployment e.g. in recession.
However, they cannot reduce supply side unemployment. Therefore, their
effectiveness depends on the type of
- Unemployment that occurs.
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