Current Unemploymen rate and NAIRU (1 Viewer)

[_ShiFTy_]

The NAIRU is 6% while the current unemployment rate is 4.9%. Can someone explain what this tells about the economy? Might be useful in an essay or something

 

[gnrlies]

The NAIRU is 6% while the current unemployment rate is 4.9%. Can someone explain what this tells about the economy? Might be useful in an essay or something

The NAIRU is a theoretical concept.

Some economists will attempt to estimate it, but nothing more than that.

Im not sure where you got that statistic from, but I would suggest that it is either out of date, or it is a poor estimation.

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The best way of thinking of the NAIRU is this:

Consider a hypothetical economy which only has one industry - that being an automotive industry. Say we have 100 people in this economy (that are in the labour force) and 10 people are unemployed (10% unemployment).

Of these 10 unemployed individuals, 5 people possess skills suitable for the automotive industry but are simply out of work due to a lacklustre economy or are simply between jobs. The other 5 people are unemployed because they dont have any skills in the automotive industry.

Say the government of this economy decides to reduce unemployment, and they embark on some expansionary macroeconomic policy. The unemployment rate slowly but surely goes down as Aggregate Demand increases.

Unemployment goes from 10%, to 9% to 8%....... 5%,

This process happens until the cyclical component of unemployment has reached zero (or near zero). In this case this will occur at 5% as 5 people are structurally unemployed, and 5 are cyclically unemployed.

What happens now is what constitutes the NAIRU. If the government continues to embark on expansionary policies, all that happens is one of two things:

1 - Consumers within the economy demand more and producers decide to increase the output of cars. They therefore need to hire more employees. They then end up employing an unskilled individual who cannot really contribute to the supply of cars. They get paid a wage, and contribute to demand, and since we have reached a capacity constraint, we have demand pull inflation.

2 - The consumers demand more, and howevor the businesses cant find suitable employees to hire, and they cannot increase supply. Demand pull inflation occurs as a capacity constraint has been reached.

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So in short (if you dont want to read the above extended version) the NAIRU is the level of unemployment where expansionary policy will merely increase inflation and have no impact on unemployment.

This occurs as not every member in an economy is able to equally contribute to the productive capacity of a nation. Subsequently demand increases due to the macro policies, howevor those left unemployed are unable to successfully move into the workforce and help meet the increase in demand.

The result is an increase in demand that is not fully met by supply, and demand pull inflation occurs

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The NAIRU and the "Natural Rate Of Unemployment" are fairly much the same thing, except for one difference - the natural rate of unemployment is usually used to reference an entire economy not just the labour market (although it can be used do describe labour conditions specifically as is done in the HSC course)

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As for that 6% estimation -

The reason I would say it is bogus is because a 1.1% difference between the unemployment rate and the supposed NAIRU would be creating a far greater pressure on prices than what we are seeing.

despite recent inflation of figures of 4%, it is important to remember that the figures are including volatile items such as bannanas and petrol, and that in fact the underlying or core inflation rate is still only 3% (within the 2-3% target band).

The reasons for our underperforming inflation figures are mainly due to the commodities boom and capacity constraints.

Whilst the skills shortage is a big part of these capacity constraints, I would find it hard to believe that we can point the figure on our inflationary underperformance squarely on skills.

A completely non quantitative or researched estimation from my part would suggest that we would be between 5% and 5.5% in terms of our NAIRU, and that it would be more likely to be closer to 5% than 5.5%. That being said, dont take that figure as anything more than a guess, because in the same way as its hard for an economics statistician from the ABS with teams of econometricians behind them to measure the NAIRU, its even harder for me with my still developing knowledge to take a stab.

 

[eternalsoul6]

Just the information i was looking for, you cleared up the mess of NAIRU in my head!

 

[Ozza]

Also, just explaining how we were operating under the NAIRU for so long without a great deal of inflationary pressures. The most likely explanation is that the fall in the unemployment rates has been slow over the past decade, allowing the economy more time to assimilate (for lack of a better word) new workers, without generating inflationary pressure.

As well, the changes to Australia's labour market have meant that it's been more difficult for workers to secure wage rises without a productivity increase, whilst decreased protection and increased competition have forced firms to keep their prices low.

As a result, many economists believed that continued strength in domestic demand would see inflationary pressures emerge without further reductions in the unemployment rate. Which is what is happening now.


Not to mention, the estimate for the 6.6% NAIRU was made by the RBA in 2002, which is perhaps as well the most likely reason for the descrepancy.