• Unemployment means that labour markets aren’t clearing (S=D)
    • Some of those willing and able to work cannot obtain a job
  • This means that a country is not producing all that it’s capable of; it’s not producing on its PPC, and hence it won’t be achieving productive efficiency.
  • The extent to which unemployment causes labour market failure depends on the number of people unemployed, and how long they’ve been out of work
    • The longer someone is unemployed, the more they get out of touch with the skills required, and the chance of them getting a job decreases.


  • Unemployment can arise as a result of a lack of aggregate demand for labour
    • This is known as disequilibrium unemployment, and occurs when aggregate supply of labour at the going wage rate is greater than aggregate demand for labour


  • It might appear that a way to reduce unemployment would be to decrease the wage rate
    • This might not only be difficult, but with workers wanting to resist a cut in their wages, a deflationary spiral could occur
      • The cut in wages would reduce aggregate demand, which in turn would lower ADL (derived demand, etc.), which would lead to a further cut in wages, which would…, etc.


  • Conversely, unemployment can arise due to problems related to the supply of labour
    • Some people may be unemployed due to them: not knowing about job vacancies; not being suited to the vacancies, or are unwilling to take up certain vacancies.
  • In other words, they are experiencing voluntary, frictional and structural unemployment.
  • In such a situation, there will be a gap between the aggregate labour force (ALF) and the aggregate supply of labour (those that are prepared to work at the going wage rate)

The gap between ALF and ASL narrows as the wage rate rises, as more of the labour force would be prepared to work at the required wage rate



  • The unemployment that exists where ASL = ADL at the going wage rate is sometimes referred to as the equilibrium unemployment or the non-accelerating inflation rate of unemployment (NAIRU)
    • These both exist when the labour market is in equilibrium
  • NAIRU is the level of unemployment at which these is no upward pressure on the wage rate and inflation
    • If, for example, the government raises aggregate demand to increase employment, the rate of inflation would increase.
    • To contrast, if unemployment rises above NAIRU, the wage rate and rate of inflation will fall.