Causes/types of unemployment: cyclical unemployment

Government and the Macro‑economy – Employment and Unemployment (Section 4.6)

1. Key Definitions (Cambridge)

2. Measuring Unemployment

• Labour‑force surveys are the official source of unemployment data in most countries (e.g., the UK Labour‑Force Survey, the US Bureau of Labour Statistics’ Current Population Survey, the Australian Bureau of Statistics Labour Force Survey).
• Definitions used in the surveys:
  • Employed: working for pay (including self‑employment) or working unpaid for at least 1 hour in the reference week.
  • Unemployed: without work, available for work, and have actively looked for a job in the last 4 weeks.
  • Not in the labour force: neither employed nor unemployed (students, retirees, homemakers, etc.).
• Unemployment rate \[ \text{Unemployment Rate} \;=\; \frac{\text{Number of unemployed (U)}}{\text{Total labour force (L)}}\times 100 \]
• The former “claimant‑count” is now a supplementary indicator of long‑term unemployment rather than the headline rate.

3. Types of Unemployment

All four types are recognised in the Cambridge IGCSE/AS‑Level syllabus. Only frictional + seasonal unemployment is compatible with the macro‑economic aim of full‑employment.

• Frictional – short‑term unemployment while people move between jobs or enter the labour market for the first time.
• Structural – long‑term mismatch between workers’ skills or location and the requirements of available jobs.
• Cyclical – caused by a fall in aggregate demand; rises in a recession and falls in an expansion.
• Seasonal – regular, predictable unemployment linked to the calendar (e.g., agricultural harvest, tourism peaks).

4. Cyclical Unemployment in Detail

4.1 What it is

Cyclical unemployment occurs when total demand for goods and services (aggregate demand, AD) falls, firms cut output and lay off workers. It is a demand‑driven, temporary form of unemployment.

4.2 Link to the Business Cycle

In the AD‑AS model a left‑ward shift of AD creates a recessionary gap, reducing output and the quantity of labour demanded. The gap represents cyclical unemployment.

4.3 Causes (linked to the components of AD)

• Consumption (C) – fall in household confidence, higher taxes on income, or tighter credit reduces consumer spending.
• Investment (I) – higher interest rates, lower business confidence, or a fall in expected profits cuts business investment.
• Government spending (G) – contractionary fiscal policy (higher taxes, lower public expenditure) directly lowers AD.
• Net exports (NX) – a stronger domestic currency or a global downturn reduces export demand.
• External shocks – oil‑price spikes, financial crises, pandemics, or geopolitical events that depress any of the AD components.
• Confidence effects – a drop in consumer or business confidence can simultaneously depress C and I.

4.4 Macroeconomic Consequences

• Output (Y) falls below the economy’s potential level, creating a recessionary output gap.
• Higher unemployment can increase inequality and reduce tax revenues while raising welfare payments.
• Prolonged high cyclical unemployment may lead to “hysteresis”: loss of skills and a higher natural rate of unemployment.
• Through the Phillips curve, a large output gap can put downward pressure on inflation; if the gap persists, expectations may adjust and the trade‑off between unemployment and inflation can shift.

5. Policies to Reduce Unemployment

5.1 Demand‑side (macro‑economic) policies

• Expansionary fiscal policy
  • Increase government spending (shifts AD right).
  • Reduce direct taxes or increase tax credits – raises disposable income and consumption.
• Expansionary monetary policy
  • Lower policy interest rates – encourages investment and consumer borrowing.
  • Quantitative easing / increase money supply – reduces borrowing costs and supports credit flow.

5.2 Supply‑side and active‑labour‑market measures

• Training and retraining programmes – improve worker flexibility and reduce structural friction.
• Subsidised wages or tax credits for firms that retain staff during downturns.
• Improved job‑centre services, online job‑matching portals and career guidance – shorten frictional periods.
• Seasonal‑adjustment schemes (e.g., temporary public‑work programmes in off‑peak periods).

5.3 Evaluation of Policy Effectiveness

6. Comparison of the Four Types of Unemployment

7. Summary

1. Unemployment is measured via labour‑force surveys; the headline rate = \(\frac{U}{L}\times100\).
2. Four recognised types – frictional, structural, cyclical and seasonal – each have distinct causes, typical durations and policy responses.
3. Cyclical unemployment is demand‑driven; it expands when aggregate demand (C + I + G + NX) falls and contracts when demand recovers.
4. Governments can reduce cyclical unemployment with expansionary fiscal and monetary policies, but effectiveness depends on the size of the output gap, timing, and possible side‑effects such as higher debt or inflation.
5. Supply‑side and active‑labour‑market measures complement demand management and help prevent frictional and structural unemployment from becoming long‑term.
6. When cyclical unemployment falls, output moves back toward potential, easing pressure on the Phillips‑curve trade‑off and helping the economy achieve its full‑employment (natural‑rate) goal.