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Natural Rate of Unemployment: Graphs & Analysis

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  • 0:00 Overview of Unemployment
  • 1:05 Natural Rate of Unemployment
  • 1:45 Analysis & Graphing
  • 3:02 Effects on Business
  • 3:42 Lesson Summary
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Lesson Transcript
Instructor: Shawn Grimsley
Many economists believe in a natural rate of unemployment. In this lesson, you'll learn about the natural rate of unemployment and how it affects business.

Overview of Unemployment

Unemployment is a scary thought for many people, because most of us rely on work to obtain money to pay for the necessities of life. You are considered unemployed if you don't have a job but are actively looking for one. If you are unemployed and not actively looking for work, you are not considered part of the labor force. For better or for worse, you will not be counted when the government calculates unemployment. We can calculate a country's unemployment rate using the following formula:

Number of unemployed in labor force/Total labor force x 100.

For example, imagine a small island country with a population of 550,000 and a labor force of 500,000. Assume that 29,000 people in the island's labor force are unemployed. Let's do the math:

29,000/500,000 x 100 = 5.8%

Is this percentage good or bad? One way we can answer this question is to figure out how close the current rate of unemployment is to the natural rate of unemployment.

Natural Rate of Unemployment

The natural rate of unemployment is considered to be the lowest rate of unemployment sustainable over a long period of time. The actual rate can be at, above, or below the natural rate of unemployment. For example, an economic recession can cause a major increase above the natural rate of unemployment, while an economic boom may push unemployment down below its natural rate. Keep in mind, however, that even the natural rate is not truly constant over time. Major changes in the structure of the economy and its labor market, such as a significant technological innovation, can affect the natural rate. This could make a whole class of jobs obsolete with no new substitute.

Analysis & Graphing

We can analyze the natural rate of unemployment through the law of supply and demand and the use of graphing. Labor is one of the resources that businesses must acquire in order to produce goods and services. And like any other resource, labor is acquired by businesses in markets where workers negotiate with employers seeking to trade their labor for compensation, such as wages and benefits.

Like other markets, the labor market is subject to the general laws of supply and demand. If the supply of labor increases faster than the demand for it, the price of labor, such as wages, tends to go down. If the supply of labor goes down faster than the demand for it, the price of labor will tend to go up. Let's plot the supply of labor and the demand for labor on a graph and see what happens.

Supply & Demand in Labor Market

You'll note that the supply curve and demand curve intersect at a point on our graph, which we call the equilibrium point. The natural rate of unemployment is the unemployment rate we have when the labor market is at equilibrium.

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