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The UK Incidence: Unemployment in the Last Decade Explained

 

Unemployment is the inability of an individual to obtain a job despite being able and willing to work. It can be measured in two main ways: (1) official registration with a state agency carrying some form of income support, also known as the claimant count method; and (2) some form of self assessment by means of a random sample of the population, for example, the International Labour Organisation's Labour Force Survey (LFS). In the last ten years, several changes in unemployment can be observed in the UK. These include an increase in the number of unemployed males over unemployed females, a fall in total unemployment as measured by the claimant count and a shift in employment away from traditional manufacturing industries towards more foot-loose, service orientated industries. There has also been an increase in the divide between the North and the South of the country with respect to unemployment levels.

Unemployment, as measured by the number of people claiming unemployment-related benefits, has fallen from its level ten years ago. In fact, in August 1997, UK unemployment fell to a 17 year low of only 5.3% of the workforce. Considering that the European Union (EU) unemployment stood at 12% at this time, this would seem to suggest that the UK economy was performing well. The latest figures (February 1999) cite UK unemployment, as measured by the claimant count, at 4.6% - or 6.3% by ILS methods.

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Unemployment is the inability of an individual to obtain a job despite being able and willing to work. It can be measured in two main ways: (1) official registration with a state agency carrying some form of income support, also known as the claimant count method; and (2) some form of self assessment by means of a random sample of the population, for example, the International Labour Organisation's Labour Force Survey (LFS). In the last ten years, several changes in unemployment can be observed in the UK. These include an increase in the number of unemployed males over unemployed females, a fall in total unemployment as measured by the claimant count and a shift in employment away from traditional manufacturing industries towards more foot-loose, service orientated industries. There has also been an increase in the divide between the North and the South of the country with respect to unemployment levels.

Unemployment, as measured by the number of people claiming unemployment-related benefits, has fallen from its level ten years ago. In fact, in August 1997, UK unemployment fell to a 17 year low of only 5.3% of the workforce. Considering that the European Union (EU) unemployment stood at 12% at this time, this would seem to suggest that the UK economy was performing well. The latest figures (February 1999) cite UK unemployment, as measured by the claimant count, at 4.6% - or 6.3% by ILS methods.

However, the trend has not always been down over the past ten years. In the early 1990s, the impact of recession and extremely tight monetary policy led to increases in unemployment. Between 1990 and 1993, the percentage of the population directly claiming income support rose from around 7% to over 10%.

Perhaps the major cause of the increase in unemployment in this country in the first three years of the decade is the exchange rate mechanism (ERM) membership in the UK up to 1992. In 1990, the UK joined the European ERM, whereby the value of the pound was pegged to other ERM currencies, and UK interest rates had to shadow German interest rates. Interest rates in the UK had been doubled in 1988 and 1989 to 15% in an attempt to curb inflationary pressure in the economy. Subsequently, capital inflows into the UK increased and the value of the pound went up so that when the UK joined the ERM in 1990, the pound was pegged to the Deutschmark (Dm) at too great a value. As a consequence, the UK had to maintain high interest rates from 1991-92 to defend a weak pound, long after inflationary pressures had subsided. This reduced consumption and investment in the economy, and as a result of the subsequent fall in aggregate demand the UK experienced its worst recession since the 1930s, and incurred a sharp rise in cyclical unemployment. It was only when the UK was forced to leave the ERM that interest rates and the value of the pound were allowed to fall, bringing about a recovery.

Since the early recessionary years of the 1990s, however, the UK has experienced a previously unseen level of stability. Following the recovery in 1993, there has been little sign of a deep recession or of a boom as seen in the late 1980s. Confidence has subsequently increased and as aggregate demand has risen, unemployment has fallen. The move to a more freely floating exchange rate has allowed unemployment to fall as the government is freer to use monetary policy as it wishes. No longer does UK policy have to shadow policy in Europe.

There are several reasons for this increase in aggregate demand since 1993, which may be explained through increases in consumer spending, investment, government spending or exports. The new Labour government has delegated decision making on interest rates to the Monetary Policy Committee of the Bank of England. This has freed monetary policy from the whim of politicians - to an extent - and is intended to promote stability in the UK. This stance is similar to that adopted by the Germans, who have long had a more independent Bundesbank than the Bank of England. It is, perhaps, no coincidence that Germany has also had a far more stable economic history than the UK. This increase in stability is intended to promote investment in the economy by increasing confidence and reducing uncertainty. Through the accelerator and multiplier model, an increase in investment has a multiple effect on aggregate demand in the economy, and proportional to the inverse of the marginal propensity to withdraw funds from the circular flow of income (savings, imports and taxes). This increase in aggregate demand since 1993 can be seen by the diagram overleaf to reduce cyclical unemployment in the economy.

As aggregate demand increases from AD1, through AD2, to AD3, real national income increases from employment level Y towards a level of full employment YF. Thus, it can be seen how increases in aggregate demand since 1993 may have helped reduce the cyclical unemployment in the economy.

Aggregate demand may not only have increased as a result of an increase in investment. As mentioned previously, increased exports could also be responsible for this rise in aggregate demand. The expansionary phase of the business cycle - 1993-94 - was largely a result of the devaluation on leaving the ERM. The pound fell from around Dm2.90 in 1992, to Dm2.50 in 1993-94. Subsequently, British international competitiveness increased greatly and the early part of the recovery was export led by the manufacturing sector. The current account improved as a result, with it approaching a surplus in 1997. This suggests that unemployment may have fallen in the 1990s due to an improving balance of payments on the current account.

Despite these statistics that suggest that the unemployment record in the UK has been generally good over the past few years - particularly relative to the EU - the record in the UK in the 1990s has not been so impressive relative to previous decades, or relative to the US and Japan. Unemployment in the UK in the 1990s - and the 1980s - was much higher than in the 1960s. Although, as demonstrated, the Sterling's depreciation and an increase in stability in the economy have rectified the effects of cyclical unemployment in the 1990s, the underlying trend rate of unemployment has been consistently rising since the 1960s, and continues to do so into the 1990s. Some economists argue that this is a result of the increasing rate of technological change that today's workers face, making some labour surplus to requirements and making older workers who fail to grasp new concepts less employable. Moreover, since 1990 - and even earlier, to an extent - the manufacturing industry in the UK has been particularly volatile, following a general trend of decline. Manufacturing industries were particularly affected by the recession in the early 1990s. This has had a large influence on unemployment levels, as male, unskilled workers, who had low occupational mobility, lost their jobs and subsequently could not find further employment. Many also found themselves in the unemployment trap, where the benefits that they received were so great that finding new employment did not make economical sense. Were it not for the government successfully attracting foreign direct investment into this country, the erosion of the industrial base in the UK would have been even more severe in the 1990s.

It has been shown how a slump in 1991 and 1992, and then a steady rise in aggregate demand through 1997-1998 may have helped to explain the rise, then fall, in unemployment over the decade. To a certain extent, it is the result of government policy that has enabled the UK labour market to function this efficiently, keeping transitional unemployment down relative to the rest of the EU. One reason for the good employment record in the UK relative to the rest of the EU is that the flexibility of the UK labour market has generally been greater. The Conservative governments of the 1980s and early 1990s went to great lengths to reduce the power of the trade unions and to allow businesses to be as free as possible to hire and fire workers and vary the hours of work. Wages councils, which set minimum wages in low pay industries, and which were claimed to create unemployment, were abolished. These moves to create a flexible labour market were driven by the belief that prosperity would be increased if the UK could become a lower wage, less regulated economy than its main competitors. The rapid fall in unemployment in 1993 and 1994, as the economy came out of recession, may be the direct result of this labour market flexibility. Firms that fired workers as the economy went into recession were confident to hire again as the economy came out of recession. These measures helped reduce the effects of cyclical unemployment. When the economy fell into recession, the demand for labour fell. If the labour market had not been so free, wages would not have adjusted and transitional unemployment in the market may have increased.

However, recently the new Labour government has introduced minimum wage legislation. This prevents the market wage rate falling below a minimum legal level and can prevent the labour market from clearing during cyclical downturns in the economy. The effects of such legislation may therefore serve to increase unemployment levels towards the end of the decade. The minimum wage may also increase the costs that employers face. Subsequently redundancies could also result as employers seek to improve efficiency and reduce the size of their workforce. However, these expected legislative effects are not yet evident and the claimant count measured UK unemployment at 4.6% in January 1999, down from the figure of 5.3% in August 1997.

In conclusion, it would seem that the UK unemployment record over the past ten years has been mixed. The combined effects of the ERM and the subsequent fall in aggregate demand have been seen to be largely responsible for the increase in unemployment seen between 1990 and 1993. However, since then, this cyclical unemployment has been reduced by the increased competitiveness of UK exports, rising investment levels encouraged by macro-economic stability, a flexible labour market and greater consumer spending.

Nonetheless, it has also been noted that underlying UK employment levels have suffered in the past ten years from structural decline in many of the traditional manufacturing industries in the UK, such as coal, steel and shipbuilding and the country may suffer if its labour market flexibility is reduced or if its workforce fails to adapt to rapidly changing modern technology, as has been the case in the past.

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