Structural unemployment is the unemployment that exists because wages do not adjust to equilibrium which causes the number of job-seekers to exceed the number of available jobs even in economic boom.
Structural unemployment results from inability of labor market to arrive at the equilibrium wage at which the number of workers are just equal to the number of jobs. Major factors that cause wages to stay above the equilibrium level include (a) minimum wage, (b) collective bargaining, (c) efficiency wages, etc.
Let’s evaluate what causes the structural unemployment using the demand and supply analysis.
As shown in the graph below, the labor demand curve slopes downward. It means that as the wages fall, firms are willing to hire more workers and vice versa. It is due to diminishing marginal product of labor. As we add more and more workers while keeping capital constant, they are increasing less and less productive. The labor supply curve is upward sloping. It means that more workers are willing to work at higher wages.
The interplay of demand and supply determines the wage that prevails in the market and the number of people hired. If at a certain wage level, the number of workers needed by firms is higher than the number of workers willing to work, the market wage will rise resulting in an increase in number of workers willing to work and a decrease in the number of workers firms are willing to hire. If at a certain wage level, the number of workers willing to work exceed the number of workers needed, market wage will fall coupled causing a decrease in number of job-seekers and an increase in number of jobs available. But there are factors that do not let this automatic adjustment to work.
Causes of Structural Unemployment
Factors that keeps the labor market from reaching equilibrium include: minimum wage, unions and efficiency wages.
A minimum wage is a price floor created by governments. It is the wage below which no employer is allowed to hire workers. Since the equilibrium wage for many skilled workers is above the minimum wage, it affects employment of only the least-skilled workers.
The minimum wage policy doesn’t let the market wage fall to a point E in the chart above that matches the number of job-seekers and number of jobs and this causes persistent surplus of workers. It is because firms only hire workers in line with its labor demand curve and at the minimum wage W(M), the number of available jobs corresponds to point D and the number of workers willing is represented by F. The difference between Q(F) and Q(D) equal the shortage of jobs that results from higher-than-equilibrium wages.
Collective bargaining is when workers form a union and negotiate collectively. Since the negotiating power of a union is higher than that of an individual worker, they tend to succeed in securing above-market benefits for their members and this restricts the number of jobs and hence causes structural unemployment.
Efficiency wages refer to wages paid by employers to their workers which exceed the market clearing wage in an attempt to retain the best talent and to provide them with incentive to perform better.
Efficiency wages result in a wage level that is higher than the market wage and number of jobs that are lower than the number available at equilibrium and hence persistent excess of workers over jobs.
Written by Obaidullah Jan, ACA, CFA and last modified on