For the average person, the most tangible result of economic growth and increasing productivity is the availability of "good jobs at good wages." Over the long run the U.S. economy has for the most part delivered on this promise, as both real wages and employment have grown strongly. But while growth in employment has recently been rapid, two worrisome trends dog the U.S. labor market: a slowdown since the early 1970s in the growth of real wages and increasing wage inequality. Western Europe has experienced less wage inequality but significantly higher rates of unemployment than the United States.
Trends in real wages and employment can be studied using a supply and demand model of the labor market. The productivity of labor and the relative price of workers' output determine the demand for labor. Employers will hire workers only as long as the value of the marginal product of the last worker hired equals or exceeds the wage the firm must pay. Because of diminishing returns to labor, the more workers a firm employs, the less additional product will be obtained by adding yet another worker. The lower the going wage, the more workers will be hired; that is, the demand for labor curve slopes downward. Economic changes that increase the value of labor's marginal product, such as an increase in the relative price of workers' output or an increase in productivity, shift the labor demand curve to the right. Conversely, changes that reduce the value of labor's marginal product shift the labor demand curve to the left.
The supply curve for labor shows the number of people willing to work at any given real wage. Since more people will work at a higher real wage, the supply curve is upward-sloping. An increase in the working-age population, or a social change that promotes labor market participation (like increased acceptance of women in the labor force) will raise labor supply and shift the labor supply curve to the right.
Improvements in productivity, which raise the demand for labor, account for the bulk of the increase in U.S. real wages over the last century. The slowdown in real wage growth that has occurred in recent decades is the result of slower growth in labor demand, which was caused in turn by a slowdown in the rate of productivity improvement, and of more rapid growth in labor supply. Rapid growth in labor supply, caused by such factors as immigration and increased labor force participation by women, has also contributed to the continued expansion of employment. Recently, there has been some improvement in the rate of growth of productivity and real wages.
Two reasons for the increasing wage inequality in the United States are economic globalization and skill-biased technological change. Both have increased the demand for, and hence the real wages of, relatively skilled and educated workers. Attempting to block globalization and technological change is counterproductive, however, since both factors are essential to economic growth and increased productivity. To some extent, the movement of workers from lower-paying to higher-paying jobs or industries (worker mobility) will counteract the trend toward wage inequality. A policy of providing transition aid and training for workers with obsolete skills is a more useful response to the problem.
There are three broad types of unemployment: frictional, structural, and cyclical. Frictional unemployment is the short-term unemployment associated with the process of matching workers with jobs in a dynamic, heterogeneous labor market. Structural unemployment is the long-term and chronic unemployment that exists even when the economy is producing at a normal rate. It arises from a variety of factors, including language barriers, discrimination, structural features of the labor market, lack of skills, or long-term mismatches between the skills workers have and the available jobs. Cyclical unemployment is the extra unemployment that occurs during periods of recession. The costs of frictional unemployment are low, as it tends to be brief and to create more productive matches between workers and jobs. But structural unemployment, which is often long term, and cyclical unemployment, which is associated with significant reductions in real GDP, are relatively more costly.
Structural features of the labor market that may contribute to unemployment include minimum wage laws, which discourage firms from hiring low-skilled workers; labor unions, which can set wages above market-clearing levels; unemployment insurance, which reduces the incentives of the unemployed to find work quickly; and other government regulations, which-although possibly conferring benefits-increase the costs of employing workers. The labor market "rigidity" created by government regulations and union contracts is more of a problem in western Europe than in the United States, which may account for Europe's high unemployment rates
