equilibrium and disequilibrium unemployment (including hysteresis)

What is Unemployment?

Unemployment is the number of people who want a job, are available to work, but cannot find one. It is usually expressed as a percentage of the labour force.

Formula: U = (U_t ÷ L) × 100%

Where U_t = unemployed people, L = total labour force.

Types of Unemployment

• Frictional – short‑term, caused by people moving jobs or entering the labour market.
• Structural – mismatch between skills and job requirements.
• Cyclical – linked to the business cycle.
• Hysteresis – long‑term unemployment that raises the natural rate of unemployment.

Equilibrium Unemployment

In a perfectly functioning labour market, the quantity of labour demanded (L_d) equals the quantity supplied (L_s) at the equilibrium wage (w_e). The resulting unemployment is the natural rate (U_n).

Analogy: Think of a dance floor where the number of dancers (workers) matches the number of dance spots (jobs). If the floor is full, no one is left standing idle.

Mathematical representation: $$U_n = \frac{L_d - L_s}{L_d} \times 100\%$$ at equilibrium.

Disequilibrium Unemployment

Occurs when the labour market is not in equilibrium – either supply exceeds demand or vice versa.

1. Excess Supply (High Unemployment) – more workers want jobs than companies need. Wage falls until equilibrium is restored.
2. Excess Demand (Low Unemployment) – companies need more workers than available. Wage rises.

Example: During a recession, many firms cut back, so L_d drops. The market temporarily has excess supply, leading to higher unemployment.

Block formula for unemployment rate in disequilibrium: $$U = \frac{U_t}{L} \times 100\%$$ where U_t includes all unemployed types.

Hysteresis – The Long‑Term Effect

Hysteresis means that a temporary rise in unemployment can lead to a permanent increase in the natural rate.

• Long‑term unemployed lose skills (skill depreciation).
• They become less attractive to employers.
• Even after the economy recovers, the natural rate stays higher.

Analogy: A plant that loses leaves during a drought may never fully regain its original foliage, even after rain returns.

Key equation: $$U_n^{new} = U_n^{old} + \Delta U_h$$ where ΔU_h is the hysteresis effect.

📌 Exam Tips

When answering exam questions on unemployment:

• Start by defining key terms.
• Use diagrams (labour supply/demand) to illustrate equilibrium.
• Explain causes of disequilibrium and link to real‑world examples.
• Discuss policy responses (e.g., training, wage subsidies).
• Remember to mention hysteresis when talking about long‑term unemployment.

Tip: Use the phrase “excess supply of labour” to describe high unemployment, and “excess demand for labour” for low unemployment.