Key Concepts and Summary

Key Concepts and Summary

Cyclical unemployment rises and falls with the business cycle. In a labor market with flexible wages, wages will adjust in such a market so that quantity demanded of labor always equals the quantity supplied of labor at the equilibrium wage. Many theories have been proposed for why wages might not be flexible, but instead may adjust only in a “sticky” way, especially when it comes to downward adjustments: implicit contracts, efficiency wage theory, adverse selection of wage cuts, insider-outsider model, and relative wage coordination.

Glossary

adverse selection of wage cuts argument

if employers reduce wages for all workers, the best will leave

cyclical unemployment

unemployment closely tied to the business cycle, like higher unemployment during a recession

efficiency wage theory

the theory that the productivity of workers, either individually or as a group, will increase if they are paid more

implicit contract

an unwritten agreement in the labor market that the employer will try to keep wages from falling when the economy is weak or the business is having trouble, and the employee will not expect huge salary increases when the economy or the business is strong

insider-outsider model

those already working for the firm are “insiders” who know the procedures; the other workers are “outsiders” who are recent or prospective hires

relative wage coordination argument

across-the-board wage cuts are hard for an economy to implement, and workers fight against them