Steve Bain

Understanding Frictional Unemployment, Causes & Examples

Frictional unemployment is a concept that relates to the natural development of an economy as the combinations of productive resources are allocated and reallocated into profitable ventures. The 'frictions' that this creates in the labor market leads to the loss of some jobs and the creation of others.

On the whole this is seen as a sign of a healthy economy, but there are circumstances under which significant unemployment can result that is not healthy. Of course, for any given group of workers, even healthy adaptations in the economy are significantly problematic if it leads to the loss of their particular jobs, and so we should always be aware that what might be beneficial for society overall is not always beneficial for all members of that society.

In most cases frictional unemployment is short-lived and often only results when a worker secures a better job than the one he/she currently holds, but takes a period of time out of work before starting the new job. Note here that this sort of unemployment would not be captured by the official statistics since the worker would almost certainly not bother to register unemployed for the interim period between changing jobs.

Simple transitioning from one job to another is of little interest to economists, but there are potential problems to be solved when the frictions in the economy prevent an efficient transition of employment from one job to another i.e. when one job ends but another is not secured in a timely fashion.

In this article I will discuss how frictional unemployment might become a problem, and in what types of situations those problems are likely to be amplified.

Frictional Unemployment Causes

The causes of frictional unemployment are many and varied, and I have talked about some of the most significant causes in my article about The Beveridge Curve. In that article the causes related to the job matching efficiency of the labor market institutions in an economy.

When performing well, these institutions will assist a new entrant into the pool of unemployed people to quickly obtain alternative employment. At other times there may be prolonged periods of unemployment because of any of the reasons I set out. I won't repeat those explanations in this article, but I'd encourage you to make sure that you are acquainted with the Beveridge Curve if you want to broaden your overall understanding of frictional unemployment causes.

There are, however, two particular causes of significant frictional unemployment that current research has focused upon and that I will explain here.

Economic Growth, Trade and Unemployment

It should be no surprise that frictional unemployment tends to be elevated at times when 'frictions' in the labor market are elevated. However, at first glance, it is less obvious that this occurs at times when economic growth is highest. The natural assumption that unemployment will be lower when growth rates are highest is reasonable, but we should remember that there are different types of unemployment and all of those types behave in the same manner.

It is true that cyclical unemployment (which is more significant than frictional unemployment) is lower when growth rates are high, and that consequently overall unemployment is lower. However, by its nature, when growth is high new job creation is also high, and that means that transitions from one job to another will also be high.

Andrea Irmen has even argued that, depending on the effectiveness of the economic institutions that assist people to enter new employment when existing jobs become redundant, there may be a trade off between overall unemployment and economic growth.

Irmen's work is built upon Endogenous Growth Theory, which incorporates technological advances as part of its economic growth model, and therefore labor saving technology and production techniques that may cause some unemployment as growth occurs.

To be precise, Irmen's work refers to a semi-endogenous growth model which does complicate matters somewhat, but the basic reasoning of unemployment resulting from growth if that growth came with labor-saving technology or production methods still applies.

In a similar fashion, economic growth will cause an increase in consumption of imported goods relative to exports, and will thereby result in some reallocation of workers to foreign shores. Of course, any deterioration in the trade deficit should, other things equal, lead to a lower exchange rate that makes domestic firms more competitive on foreign markets. That in turn should allow more jobs to be created to offset the lost jobs.

However, recent decades in the western world have not supported the notion that other things are equal, and throughout the deindustrialization of the 1980s, exchange rates were prevented from adjusting to a lower level because our governments simply increased their borrowing to fill the gap. This borrowing then allowed governments to squander massive sums of money on all sorts of ill-conceived projects with the result that the western world became hopelessly indebted with little to show for it.

The lessons here are clear, whilst trade is a fine thing, a trade-deficit is a dangerous problem that can (if allowed to persist too long) create frictional unemployment leading to a much more serious situation in the form of long-term structural unemployment.

Labor Mobility,  Social Connections, and Unemployment

Labor mobility, by which we mean the propensity of workers to migrate from one geographical area in an economy to another in search of new employment opportunities is known to be a serious limiting factor of the efficient clearing of the labor market. The implication is that, when workers are tied to a specific area for some reason e.g. family commitments, the longer periods of unemployment will result.

It is quite normal for countries with different demographics, cultures and social systems to experience quite different attitudes towards labor mobility with resulting differences in the pattern of unemployment. Even within a given country, the demographics, culture and social systems tend to change given enough time.

A few decades ago it was the widely accepted view that the United States had a much greater degree of labor mobility than did Western Europe. However, research by the OECD has shown that there has been a decline in labor mobility in the US. Europe, on the other hand, has experienced an increase due to the greater freedom of movement within the EU area.

Research by R. Axtell Et Al claims that the numerous micro-influences on the labor market makes stable Beveridge Curve modeling unreliable and over-complicated. Instead, their research has focused on proposing a new framework for modeling frictional unemployment. The main component of this framework is an assumption that the labor market exists upon a network of firms which reveal the 'pathways' that job-seekers are most likely to navigate.

They claim particularly good results for this framework when it is applied to a local job market. For example, we might reasonably expect that the functioning of the local labor market in a place like Silicon Valley might be quite different to the standard job separation and vacancy matching dynamics which underlie the Beveridge Curve, and that is because of the extremely close interconnections of firms clustered together in related industries within Silicon Valley.

Frictional Unemployment Examples

As always there are endless specific examples of frictional unemployment in the real world, but in almost all cases these can be categorized into one of four groups:

  1. New entrants into the labor market - e.g. school leavers and graduates will require some period of time to secure a job, and in that interim period they are considered unemployed.
  2. People returning to the labor market after a career break - there are many reasons why people might take a career break such as going on sabbatical, taking care of an elderly parent, or starting a family. In some cases a worker may take early retirement and then subsequently wish to return to work. 
  3. Employees quitting their jobs - if an employee becomes disgruntled with their current state of affairs, he/she may simply decide to quit their job. This will usually make them ineligible to claim welfare support, but they would still be classed as unemployed. 
  4. Being made redundant, or being fired - in these instances the initial decision to end employment is not taken by the employee but by the employer. 

How to Reduce Frictional Unemployment

The standard government approaches to reducing frictional unemployment tend to be similar across developed countries and are not often tailored to specific local labor markets. Central governments, or Federal governments, support packages to help people find their way back into employment, and I have written about these already in my article about Barriers to Work, so I won't repeat them here.

The reader should also be aware that other related policies, especially those relating to welfare support, can come with negative incentives in so far as they deter people from looking for work as vigorously as might otherwise have done had no support been available. That is not meant as an argument against welfare support packages, but it should be kept in mind that overly generous payments will to some extent take away the need for work at least in the short-term.

Aside from central/federal government packages to help people back into work, there are some local/regional support packages that aim to support economic development in the poorer areas within a country. These are of only minor significance though, with only very limited resources available for such things.

From my own professional experience with the European Regional Development Fund, I can assure you that regional agencies in the UK had very little expertise in understanding local labor market characteristics, and consequently were hopelessly incompetent at forming effective projects and initiatives to tackle local unemployment problems.

Finally, we should consider that in many cases the best approach to take with respect to reducing friction unemployment is simply to do nothing at all. Workers themselves are often highly resourceful in finding new opportunities when their existing jobs are in danger, and to the extent that frictional influences on the economy are felt most during times of economic growth, the extra opportunities generated during these times will usually (not always) result in most people ending up better off.

Other Types of Unemployment

  • Cyclical Unemployment - this is the main type of short-term unemployment that economists focus on, and it is related to the natural economic cycle from growth to recession and the changes in unemployment that result.
  • Structural Unemployment - this is the main type of long-term unemployment that economists focus on. It relates to large scale job losses resulting from changes in production techniques e.g., introduction of labor-saving machinery, or changes in demand for an industry's product e.g., when a new product makes an old product antiquated. The effects of globalization also lead to structural changes in the location of many manufacturing jobs.
  • Seasonal Unemployment - whilst not as significant as the other types, seasonal influences on the pattern of unemployment can be more problematic for some countries than it is for others e.g., those where seasonal weather fluctuations are more extreme and cause more disruption to industry. Even in countries that are immune to most seasonal effects, there are usually some specific local areas/industries that are affected.

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