Consequences of Unemployment

There are economic and social costs of unemployment
Economic costs

Persistent unemployment is a sign of market failure because unemployment
is a waste of scarce resources and leads to a loss of potential output and a
reduction in allocative efficiency.

Therefore the economy is operating below the maximum output it could

This might be illustrated by making use of a PPF.

Making people unemployed means a
waste of those resources invested in
training and educating workers.
The longer a person’s period of time out of work, the greater the
loss of skill
and motivation.
A high rate of long term unemployment can therefore have a negative effect
on a country’s economic growth potential.
High unemployment also affects government finances through higher benefit
payments plus falling revenue from income tax, NI and VAT.
There is a strong link between unemployment and consumer spending. As
consumer’s confidence falls, so the willingness of people to spend declines
and people build up their precautionary savings.

Hysteresis effects
The hysteresis effect describes a possible consequence of a country
experiencing persistently high rates of
long term unemployment.
It refers to the economic costs of unemployment because of the damage
that unemployment does to the skills and employability of those people out
of work.
The longer someone is out of work, the less attractive they become to a
potential employer.
The longer someone is out of work the greater their loss of technical and
social skills needed at work.
People become less willing to seek work and an increase in “core” structural
unemployment and a consequent rise in the
natural rate of unemployment

Social Costs of Unemployment
Rising unemployment is linked to social deprivation leading to negative

There is some relationship with crime, and social dislocation (for example via
increased divorce rates, worsening health and lower life expectancy).

Areas of high unemployment see falling real incomes and a worsening in
inequalities of income and wealth.

How to reduce unemployment

Demand-side and supply-side policies can be used to improve the
working of the labour market.

Supply side policies
Aim to reduce immobility of labour.

Immobility in terms of changing job (Occupational immobility).

Immobility of labour is a cause of market failure and structural

Supply side policies addressing occupational immobility aim to provide:-
Workers with
skills required by the labour market

incentives to find work.

Providing workers with the right skills
· education and work placed training can be used to increase the
of unemployed workers.
· This then helps to ensure more of the unemployed have the right skills to
take up the available job opportunities.

Providing incentives to find work through benefit and tax reforms
a policy that reduces the real value of welfare benefits might increase the
incentive for the unemployed to take a job.
targeted measures to improve people’s incentives, including the linking of
welfare benefits to participation in genuine work experience programmes
such as the New Deal programme
the introduction of
lower marginal income tax rates for people on low
incomes might have a noticeable impact.

Demand-side policies
1. Reflating the economy would lead to greater demand for labour:-

Govt could use macro-economic policies to increase AD and thereby
generate a higher level of national income and employment.

Reflationary policies can help to mitigate the effects of an economic
recession but there are risks involved in using both fiscal and monetary
policy simply to boost demand when output is low.

Regional policies would increase demand for labour in those regions:-

use regional policies to encourage both national and foreign investment in
areas of high unemployment. Offer investment grants, tax breaks for firms
who relocate.

3. Employment subsidies
Government could give subsidies for businesses that take on the long-term
Employment subsidies may also be available for overseas firms locating in the
UK in regions of below-average economic prosperity.

The main weakness of relying too heavily on demand-management policies to
reduce unemployment is that much unemployment is not cyclical; rather it is
frictional and structural in origin and cannot be solved simply by injecting
vast amounts of money into the circular flow of income and spending.

There is a need to encourage new industries new enterprises producing new
products for new markets therefore tax breaks on investment in new
machinery, research and development, setting up new businesses ( advisory
agencies such as Business Link)

The government’s current labour market strategy is firstly to rely on
monetary and fiscal policy to maintain a stable rate of economic growth as a
pre-condition for high and stable rates of employment.
Macroeconomic stability is regarded as essential for creating the right
climate in which new jobs become available.
Secondly, supply-side policies and in particular active labour market
strategies such as New Deal and other welfare and education reforms are
given a higher weighting in seeking to reduce structural aspects of the
unemployment problem.