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Not just a number: Defining full employment

Political discussion over the current government’s economic record centres on Australia’s unemployment rate of 5.5%. As some commentators have noted, this is better than the average of the last three decades…

Is 5.5% unemployment really so great? It depends on your notion of full employment. Image sourced from www.shutterstock.com

Political discussion over the current government’s economic record centres on Australia’s unemployment rate of 5.5%. As some commentators have noted, this is better than the average of the last three decades for Australia.

Nonetheless a reasonable person might well ask how 5% of the labour force being unemployed could be viewed in any way as acceptable, regardless of the average over a significant period of time.

The answer lies in the long-running influence of some conventional economic propositions on the way we look at unemployment and how these propositions inform discussion about what full employment means.

I would add also that none of these propositions are beyond question. I believe they should be held up for scrutiny.

Exactly what is full employment?

More than anything else in the last hundred years, explanations of unemployment in capitalist economies and the related notion of full-employment have been at the heart of debate in macroeconomics.

In particular, for the economics profession the question at the centre of macroeconomic debate has always been whether there exists a spontaneous market mechanism which could be relied on to push a capitalist economy towards full-employment.

To understand this debate, one must define “full-employment”.

I myself would prefer an old-fashioned starting point: full-employment means the absence of involuntary unemployment and thus a situation where all those wishing to work at the ruling set of real wage rates can find employment.

Defining unemployment this way would reasonably imply the absence of what traditionally would be called “structural unemployment”; that is, people are unemployed because of a mis-match of the skills they possess and those required by the available jobs.=

This one might class this as a type of involuntary unemployment and is generated obviously as the economy goes through structural change, with certain sectors declining and others emerging and expanding.

To the extent that skilled workers are channelled into unskilled or semi-skilled occupations as a result, this displaces less skilled workers and also represents an underemployment of skilled workers.

Economists would also typically note that this notion of full-employment is not synonymous with the absence of all unemployment. Rather it would allow for people voluntarily unemployed between jobs – sometimes referred to as frictional unemployment.

But here the line between voluntary and involuntary unemployment becomes somewhat blurred. Frictional unemployment itself may reflect a move by people out of jobs in which they are underemployed in search of positions more suitable to their skills and experience.

So, a desirable position for society – which I would call “full employment” - is the absence of unemployment that is due to an insufficient number of jobs relative to jobseekers, including the absence of structural unemployment and underemployment.

It is stating the obvious then that full employment defined in this way requires having sufficient number of jobs - generated by economic activity - and a set of job opportunities which are commensurate with the skills that the jobless have or are capable of attaining – via retraining and through education.

Two grand but incompatible theories

And ensuring an economic climate consistent with this goal is where the controversy in the history – both past and contemporary – of macroeconomic discussion begins.

It is not an exaggeration to say that on this matter, the history of economic thought sees two grand though fundamentally incompatible traditions.

The first and by far the most dominant throughout the 20th century and up to the present day posits that the long-run growth path of the competitive economy will align itself with what’s required for full-employment (as I’ve defined it).

The proviso is that there is sufficient flexibility in the working of markets – for products and resources, but particularly labour and financial markets.

From this view it follows that a persistent departure from full employment reflects at its heart a lack of such flexibility.

More often than not, the finger will be pointed squarely at the labour market – insufficient flexibility in real wages, including relative wage inflexibility which leads in this view to unemployment in specific segments of the labour market.

“Natural” rate of unemployment and full employment

Since the mid-1970s a related idea (in fact the flipside of the idea above) has been coupled by policy-makers and most commentators with an emphasis on market flexibility. This is the notion that there will be a certain rate of unemployment beyond which macroeconomic policy attempting to lower it further would lead to accelerating inflation.

Moreover, at this rate of unemployment policy-makers would not be able to trade-off higher inflation for lower unemployment for any length of time.

This – euphemistically called the “natural” rate of unemployment – has become since the 1970’s the modern analogue of full employment.

One should understand however that this “modern” view of full employment derives from the same theoretical foundation as that which emphasises that the economy would in a world of freely operating markets converge on a position of full-employment.

What this relatively modern view added was that governments would be ill-advised to seek to reduce unemployment beyond the natural rate for fear of exacerbating inflation.

The idea of a non-accelerating inflation rate of unemployment towards which unfettered markets would steer the economy, has informed most discussion about what defines full employment and resulting macro policy for over four decades.

In essence, the hegemony of this view in academic and policy circles manifests itself in the primacy of inflation as a target of central banks - and forms part of the centerpiece which is seen to justify the problematic idea of an independent central bank.

However, the 20th century is rich with an undercurrent of dissent from this view about unemployment the supposedly self-correcting virtues of capitalist economies.

Rather than starting from the standard economic perspective of seeking to explain why there is unemployment, it begins with the following question: why should one expect capitalist economies left to themselves to generate full employment?

The most famous dissenter in this regard was Keynes, but plenty of others have followed, all with the same message: conventional economics has failed to produce a coherent basis for the belief in a spontaneous market mechanism pushing a capitalist economy towards full employment.

These critcs maintain that those arguments which have been forthcoming from orthodox economics throughout the 20th century are questionable on both theoretical and empirical levels.

In this view, orthodoxy has failed to appreciate particularly how fragile and ultimately incoherent is the theoretical foundation on which conventional arguments about the self -correcting nature of unemployment have been erected.

A corollary of this type of criticism is that government can influence in a positive way and permanent way through its monetary and fiscal policies the long-run growth path of the economy and its proximity to full-employment.

Proximity to some sort of inflation barrier – as if the consequences of inflation were comparable to the social consequences of unemployment – is not an excuse for a macro-policy retreat. Rather it’s a call for greater imagination in policy; God forbid that someone might call out for an incomes policy!

There is nothing natural in the sense of inevitable about full employment in competitive capitalist economies; nor is unemployment something impervious to a coherent macroeconomic policy.

Join the conversation

20 Comments sorted by

  1. Bill Skinner

    Research Professor at University of South Australia

    I must say I've always been confused by who is included as unemployed in the statistic, and have always suspected that the unemployment level ("rate" is misleading) is somewhat higher than the % quoted.

    Your article adds some clarity, however it would informative to see a list of situations that would be considered unemployed by government. I'm not sure if it is completely correct or not but, if you work more than a certain number of hours a week, you considered employed. That can be, even though you have been seeking full-time employment for several years. There are several other scenarios in which people are excluded from the unemployment numbers, yet do not earn enough to pay tax.

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  2. Geoff Davies

    Retired scientist

    Two things: past rates of unemployment were much lower, and free-market theory is not just "fragile", it is pseudo-scientific nonsense, irrelevant to real economies.

    Average unemployment 1953-74 was 1.3%, according to Stephen Bell in Ungoverning the Economy, 1997. Menzies retained power by only a handful of votes in 1961 because unemployment went above 2%. Government and unions "intervened" rather a lot in those days, but it's the best economic performance in Australia's history (growth 5.3…

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    1. Dianna Arthur

      Environmentalist

      In reply to Geoff Davies

      >>> We need to stop listening to the mainstream nonsense <<<

      Agree, the only thing which will hit the MSM is for a significant number of people seeking real information, analysis and objective commentary in alternative sites.

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  3. Giles Pickford
    Giles Pickford is a Friend of The Conversation.

    Retired, Wollongong

    There is only one fair definition of "employed" and that is a person who is earning a living wage. There are thousands of people picking up the crumbs on the margins of our trickle-down economy. Many of then only work one or two days a week. They are not officially "unemployed".

    The definitions are all skewed to make it look as though we have low unemployment.

    I would say our true level of unemployment closer to 20%.

    Giles Pickford

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  4. David Thompson

    Marketing Research

    Deferring to Keynes is completely inappropriate in the 21st century. For Keynes, "full employment" meant 50% of the population confined to the kitchen and bedroom!

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  5. Kevin Bain

    Teacher

    Thanks Graham for starting a conversation on this relevant and substantive issue. I anticipate much interesting discussion on this topic.

    It's more important than the trivia occupying two eminent economists elsewhere at The Conversation in parsing "“one of the lowest unemployment rates in the developed world." (There must be some idle monks or undergrads who could have spent 5 minutes on that.)

    You suggest that full employment is a situation where all those wishing to work at the "ruling set…

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    1. Graham White

      Associate Professor, School of Economics at University of Sydney

      In reply to Kevin Bain

      Dear Kevin,

      Yes, apologies for the editing - those mistakes are entirely mine, and your presumptions are correct.

      I guess my basic point was that conventional debate about unemployment is underpinned by a view,reflective of mainstream economics, that it must be a problem associated with a lack of market clearing somewhere.

      What was revolutionary about Keynes's theoretical position was his claim that one could have the utmost flexibility of markets without this guaranteeing full-employment.

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    2. Helen Westerman

      Deputy Managing Editor at The Conversation

      In reply to Graham White

      Thanks Kevin for pointing out these editing issues. They have been corrected.

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    3. Peter Ormonde
      Peter Ormonde is a Friend of The Conversation.

      Farmer

      In reply to Graham White

      Lovely piece.

      I am much taken by this notion of "spontaneous markets" - buying and selling outbursts popping up like bubbles in a mud pond... something sort of Attenborough about it all.

      The participation rate really buggers up old notions of full employment doesn't it? - folks drifting in and out of the workforce like brown's cows ... and the rate of structural and technological change means the frictional stuff has also hiked up since Keynes' steam powered day... not to mention the fact…

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  6. David Bentley

    logged in via LinkedIn

    That’s an interesting article, however, I’m not entirely sure that it’s particularly useful – or at least it’s about as useful as the start of a PhD abstract but without the benefit of a conclusion. Economics is little more than a tool for decision making, or at least that’s its only real world use – long theoretical arguments between Keynes (‘ians) and Friedman (‘ites) are not in themselves useful except to the extent they help bring to the fore ideas that can be used for decision making to benefit…

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  7. John Kelmar

    Small Business Consultant

    The current concepts are rather ambiguous, whereas a better definition of "Full Employment" is when "every citizen who wants a full-time job is employed", not necessarily in the industry they prefer.

    Many years ago the Government started to "fudge" the figures by classifying students (even for one hour a week) as not being included in the unemployment figures, and at the same time made it easier for people without a job to move into study to take them off the unemployment list.

    Others prefer not to engage in full-time work (retirees, children, stay-at-home parents, investors, consultants, artists (inc musicians), prostitutes, etc), and also should not be included in the figures.

    My first paragraph should define the situation more clearly than the present mishmash of philosophies.

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    1. David Bentley

      logged in via LinkedIn

      In reply to John Kelmar

      Even tightening that up further: "every citizen is employed to their desired level of employment". My wording is clunky, but essentially that would mean that people who want a full time job but only work part time are not included as being fully employed, but does mean that people who want a part time job and work part time are included as being fully employed.

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  8. Shannon Conroy

    Manager at FMCG

    I find it interesting that the term "full employment" seems to be thrown around by certain MSM outlets a lot these days - with the unemployment rate at 5.5%

    I know people who are actively looking for full time work and are not having much luck.

    I recall back in 2007 when unemployment was at 4.2% and I was trying to hire two full time staff members to work as night-fillers. The roster on offer attracted considerable penalty rates which made the money attractive for generally menial work requiring no qualifications or experience. It took months to fill the positions, and yet you did not hear the term "full employment" at all mentioned.

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    1. Kevin Bain

      Teacher

      In reply to Shannon Conroy

      4.2% is about as low as it has been for 40 years Shannon. It suggests that the pendulum had shifted towards workers and they upgraded their expectations. In context, what you think is generous wage rates is irrelevant - they will get the best deal around, and so will you. What is your point?

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  9. Ivo Drobac

    unemployed teacher

    I surely don't consider myself employed by getting a day's work every few weeks.
    The only time in Australia that I can consider as having full employment was in 1973/4... My employer at the time was offering to every employee (hundreds of them at the time) $20 (1/3 of ordinary weekly wage) if one of us could bring someone who would have stayed at work for two weeks!

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  10. David Collett

    Sales at https://aussiebuilder.com

    Good link Gary, glad to see the definition confirmed by ABS that a person only needs to do one hour of work per week to remove them self from the unemployment queue.

    Have just been reading this paper from the Centre for Full Employment and Equity which went into this topic a bit more:
    http://e1.newcastle.edu.au/coffee/pubs/wp/2013/13-02.pdf

    Alan Kohler did an article recently somewhere saying that the real unemployment rate is closer to 10% with another 7% under employed meaning they want more hours.

    This whole topic is ignored in the "public arena" partly because of the convenient definition of unemployment that makes it look like a non-issue.

    An inherent distrust in the way banking and economic policy settings are being set across the globe means we kind of need to check it out ourselves a bit..

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