EOY 15 mark

cyclical unemployment

occurs during downturns of a business cycle when there is insufficient demand for labour

cyclical UE example + graph

For example , during the Great Recession in the USA from 2007 to 2009 , the housing market collapsed and housing prices fell by 30%. This generated a negative wealth effect as more households felt less wealthy and poorer due to the depreciation of the value of their houses. As a result , discouraging households from spending and leading to a fall in consumption and fall in AD. As seen in diagram 2, AD shifts left from AD1 to AD2. The 4.3% fall in real GDP from 2008 to 2009 can be represented through real GDP falling from Yf to Y1 and consequently average price level falling from P1 to P2 , creating a recessionary gap.

EFP to correct cyclical UE

 the US government implemented an expansionary fiscal policy American Reinvestment and Recovery Act in 2009 ,to increase the AD. The American Reinvestment and Recovery Act involved a US$782 billion stimulus package which involved government spending and tax cuts. Tax cuts increase households' disposable income, leading to an increase in consumption. When paired with an increase in government expenditure , AD increases.

EFP to correct cyclical UE graph

when AD shifts right from AD1 to AD2 , real GDP increases from Y1 to Yf, reflecting the 2.7% increase in real GDP in 2010. Furthermore , APL increases from P1 to P2 , closing the recessionary gap between Y1 and Yf. When demand increases , firms would increase production and hire more labour , leading to a fall in cyclical unemployment. The Congressional Budget Office estimated that the American Reinvestment and Recovery Act reduced the unemployment rate by 0.7–1.9 percentage points in 2010 compared with what would otherwise have occurred.

advantage of EFP

1. directly increase AD (not affected by confidence)

2. multipler effect

advantage of EFP — directly increase AD

A key advantage of expansionary fiscal policy is that government spending increases AD directly, rather than relying on indirect transmission through interest rates or structural change. A rise in government expenditure raises AD regardless of consumer and investor confidence, making EFP especially powerful in a deep recession when confidence is low.

advantage of EFP — multiplier effect

The policy also benefits from the multiplier effect. When the government spends part of the US$787 billion budget on, for example, infrastructure , that money becomes income for construction firms and their workers. These workers then spend part of their income on goods and services, which becomes income for shopkeepers , creating a multiplier effect . This effect increases efficiency especially during a recession where there are idle workers and machines ready to produce the extra output

disadvantage of EFP

1. govt budget

2. does not solve other types of UE

disadvantages of EFP — does not fix other type of UE

However, EFP does not fix other types of unemployment. By raising AD, it reduces cyclical unemployment, but it does nothing to fix structural unemployment caused by a skills mismatch. Workers displaced from declining industries cannot fill vacancies in growing ones no matter how high AD rises.

disadvantage of EFP — budget deficit

However, the US$787 billion stimulus package increased government spending, widening the US budget deficit as government expenditure exceeded tax revenue. To finance this deficit, the government might borrow money by issuing bonds, increasing national debt. This may cause interest rates to rise, making it more expensive for firms to borrow and invest. As investment falls, AD increases by less than expected, partially offsetting the benefits of EFP. Furthermore, the government must repay the debt with interest in the future, placing pressure on future government budgets.

EMP correcting cyclical UE

However, to pull the economy out of the recession, the US Federal Reserve implemented EMP by lowering interest rates. The federal funds rate fell from 5.25% in September 2007 to near 0% in December 2008. When interest rates fall, the cost of borrowing falls, encouraging consumption (C) and investment (I), thereby increasing AD.

EMP advantage + disadvantage

1. controlled by bank + no govt expt

2. demand pull inflation

3. pessimistic outlook

EMP advantage — controlled by bank + no govt expt

A key advantage of EMP is its speed and flexibility compared to fiscal policy. The central bank can adjust interest rates quickly, in small increments, and without lengthy legislative processes - the Federal Reserve cut rates eight times between September 2007 and December 2008, demonstrating how rapidly policy can respond to changing conditions (can fine-tune the economy).EMP also requires no government spending, so it reduces cyclical unemployment without widening the budget deficit or increasing government borrowing - a critical consideration for the US, whose fiscal stimulus package of 2009 added substantially to public debt.

EMP disadvantage — demand pull inflation

EMP also risks demand-pull inflation if maintained for too long. If interest rates remain near zero even after the economy recovers, cheap borrowing continues to fuel consumption and investment, so AD grows faster than the economy's productive capacity. When AD shifts right beyond the full-employment level of output, the pressure of excess demand raises the average price level rather than real output - this is demand-pull inflation. 

EMP disadvantage — pessimistic outlook

However, EMP is ineffective when interest rates approach zero, as in the US by December 2008 .With rates already near 0%, the Federal Reserve could not cut further, yet unemployment continued rising, reaching 10% in 2009. The rise in unemployment to 10% shows that near-zero interest rates were not enough to stimulate AD and reduce unemployment this demonstrates that near-zero rates cannot stimulate demand when confidence is shattered, because even at zero cost households and firms prefer to save rather than borrow and spend during a severe downturn.

labour market reform — reduce UE benefits RWE + policy

Germany implemented the Hartz reforms (2003-2005) after reunification left its labour market rigid, with generous unemployment benefits and high hiring costs pushing unemployment past 10%. The reforms cut the level and duration of unemployment benefits and increased wage flexibility at the bottom of the labour market, making it cheaper for firms to hire low-skilled workers and strengthening incentives for the unemployed to accept available jobs. Consequently, unemployment fell from over 11% in 2005 to around 4% by 2019, demonstrating how reducing the minimum wage can reduce structural unemployment.

adv of market based — lower costs , shift SRAS right

A reduction in unemployment benefits lowers the reservation wage of unemployed workers, which is the minimum wage they are willing to accept. This is because the financial incentive to remain unemployed decreases relative to the income earned from employment. Consequently, low-income workers become more willing to accept lower-paid jobs, increasing the supply of labour. This allows firms to recruit workers at lower wage rates, reducing labour costs, which are a component of COP. Hence, firms experience lower COP, improving their profitability and price competitiveness.

dadv market based — income inequality + Lorenz curve diagram

A reduction in unemployment benefits may worsen income inequality as unemployed individuals, particularly those from low-income households, experience a fall in their disposable income due to reduced government transfer payments. Since these individuals are already financially vulnerable and rely heavily on welfare support to meet their basic needs, their purchasing power and standard of living may decline further. Meanwhile, employed individuals continue to earn wages, resulting in a widening income gap between employed and unemployed households. Hence, income inequality may worsen.

dadv market based — doesnt fix skills mismatch

If workers lack skills for relevant industries , reducing UE benefits does not provide them with the necessary skill sets to uptake these high skilled jobs. Hence , unable to improve their occupational mobility so the policy cannot substitute for retraining programmes. Germany still needed vocational training alongside wage reform to absorb workers into new industries.

structural UE

occurs when there are changing structures in an economy

permanent fall in demand for routine labour RWE

In Singapore , an internal monetary fund analysis found that around 38% of employed workers were vulnerable to Artificial Intelligence (AI) overtaking their job. More specifically , employed workers carrying out routine administrative tasks that AI could easily replace. Additionally , Singapore’s Ministry of Manpower revealed that 6.2% of firms that have adopted AI have reduced their headcount while around 8% of these firms have reduced hiring more labour. As firms shift to using automation to carry out traditional routine tasks , it reduces demand for clerical labour. If these clerical workers don’t go for retraining or upskilling, they will remain structurally unemployed.

Interventionist policy on permanent fall in demand for routine labour + graph

To solve this , Singapore has implemented an interventionist side policy of investment in human capital through SkillsFuture Career Transition Programme. Through the SkillsFuture Programme , those who are structurally unemployed would be able to retrain and upgrade their skills to fit technology intensive industries or industries which are in high demand. This programme helps improve the quality of labour , increasing the economy’s total potential capacity. As seen in diagram 1 , investment in human capital causes the LRAS curve to shift right from LRAS 1 to LRAS 2 , subsequently causing real GDP to increase from Y1 to Y2 and average price level (APL) to fall from P1 to P2. Additionally , the programme has a 54% to 55% job placement rate within six months of course completion for unemployed trainees, suggesting that the programme improved their occupational mobility. In the long run , reducing the skills mismatch caused by structural unemployment. 

interventional advantage + disadvantage

1. target root cause

2. time lag

3. burden deficit

interventionist advantage — target root cause of structural UE

Moreover, retraining programmes target the root cause of structural unemployment. Unlike demand-side policies, which increase AD and create more job opportunities but may not benefit workers who lack the necessary skills, retraining equips unemployed workers with the skills required by employers, In the short run, government spending on training injects government expenditure into the economy, shifting AD rightwards and raising output and employment, thereby reducing cyclical unemployment. In addition , in the long run, the improved skills shift LRAS right, reducing structural unemployment and raising potential growth. Germany's dual vocational training system demonstrates the condition for success: because apprenticeships are co-designed with employers, retraining maps directly onto existing vacancies, and youth unemployment has remained among the lowest in Europe. This suggests retraining is most effective when industry is involved in designing the training, since workers then acquire skills firms actually demand.

interventionist disadvantage — burden on budget + opp cost

However, training subsidies place a recurring burden on the budget. Unlike a one-off infrastructure project, programmes must be funded every year to continuously reskill workers as technology evolves, so spending compounds and may widen the budget deficit.Consequently, government debt and future interest payments increase, leaving fewer financial resources for other important areas such as healthcare and education. This creates an opportunity cost and may reduce the government's ability to fund other development projects in the future.

interventionist disadvantage — time lag

Furthermore, retraining suffers from a time lag as courses may take months or years to complete. Consequently, displaced workers may remain unemployed while acquiring new skills, meaning structural unemployment is only reduced in the long run. Although Singapore's MySkillsFuture programme saw a 55% increase in job placement within six months of completing training, this demonstrates that retraining can be effective when courses are aligned with industry demand. However, if training does not equip workers with skills required by employers, workers may remain unemployed despite completing their courses, resulting in inefficient government expenditure.

Evaluation

• depends on the severity and type of unemployment.

• For example , in countries like Singapore where structural unemployment is more relevant , supply side policies could be more effective. In addition , Singapore has sufficient fiscal capacity to invest in human capital without bringing about huge financial strains. However, supply side policies have long term impacts. So , if structural unemployment is severe and urgent , supply side policies may not be as effective in reducing it in the short run. I

• n addition , supply side policies can help combat frictional unemployment by improving job matching services. Not to mention , also reducing seasonal unemployment by equipping these workers with skills in other industries during their off seasons.

• Although supply side policies may bring about small short term impacts on cyclical unemployment , the impact is not as beneficial as demand side policies. Hence, in countries where cyclical unemployment is more severe, demand side policies may be more effective as it directly increases the AD to address the root cause of demand deficient unemployment.

Conclusion + judgment

Ultimately, the view that supply side policies are more effective than demand side policies depend on the cause and severity of unemployment. Supply-side policies are more effective in the long run when structural unemployment is caused by skills mismatches, whereas demand-side policies are more effective in the short run when cyclical unemployment results from insufficient aggregate demand. Therefore, the most effective approach pairs both demand and supply side policies since neither alone can prevent all types of unemployment.  One to lift the economy out of a downturn quickly, and the other to address the structural causes.