Understanding Inflation and Unemployment: Causes and Impacts
Impact of Other Production Costs
Source of inflation: Increasing cost, autonomous, one of the factors involved in the production function, keeping the rest unchanged.
- The potential inflation of these costs will be higher the lower the possibility of replacing the expensive factor.
- The process is enhanced in times of buoyant demand that allow total or partial transfer of costs to prices.
Inflation of Costs and Economic Policy
Whatever the ultimate source of cost inflation, apply two main lines of economic policy:
- Measures to deregulate markets to facilitate competition and avoid monopoly situations that favor the direct transfer of any increased costs to prices.
- The so-called incomes policies by institutional commitments concluded between unions and employers to limit as much as possible the growth of wages. The content of the incomes policy can range from simply setting benchmarks for the wage until the achievement of agreements or resolutions.
Types of Unemployment
1. Cyclical Unemployment
Occurs when the rate of growth of economic activity is insufficient to absorb the labor supply in a given period. It is linked to economic cycles and is temporary.
2. Frictional Unemployment
Is related to the time used to find work after a normal period of training or the need to change jobs. It is virtually inevitable.
3. Structural Unemployment
Has its origin in the mismatch of labor supply and demand requirements. Included in this category is supposed unemployment resulting from the existence of institutional rigidities in the labor market that affect the availability and cost of a decent workspace. Productivity issues for technological innovation are achieved at the cost of downsizing, with the consequent net negative effect on employment. Regarding immigration, it was observed that this has no negative impact on the level of unemployment. In addition, it benefits the public accounts.
Impact of Wages
Source of inflation: Increasing labor costs due to nominal wage increases above productivity.
Not all wage increases are inflationary. Required:
- The right market conditions that allow companies to transfer the increased costs to the prices of goods and services offered. Otherwise, an alternative to inflation may be unemployment.
- Wage growth higher than labor productivity. Otherwise, the wage increase should be interpreted as just compensation to labor for its contribution to income generation.
What explains wage growth higher than productivity?
- Rigidity of an institutional nature that makes the labor market a segmented, uncompetitive market.
- The attitude of the unions when pushing wage settlements outside productivity, in order to avoid the loss of purchasing power of wages.
- The imitation effect in wage bargaining of workers in sectors with lower productivity and the level of remuneration in respect of workers in more productive and better-paid sectors.
Impact of the Benefits of Monopoly Sectors
Inflation Source: Direct transfer of any increased production costs to prices, as a strategy to increase or maintain the rate of business profit.
Not all benefit increases can be inflationary. Requires:
- Terms of an uncompetitive market – monopoly or oligopoly situations where the company can transfer the cost increases to prices without fear of competition.
- Buoyant demand conditions sufficient to absorb the direct transfer of costs to prices.