Demand-side policies fight cyclical unemployment; supply-side policies such as training fight structural unemployment.
The right policy depends on the type of unemployment. Cyclical unemployment comes from too little spending. Lower taxes, more government spending or lower interest rates all raise total demand. Firms then sell more and need more workers.
Structural unemployment comes from a mismatch: workers have the wrong skills, or live in the wrong place. More spending will not help much. Supply-side policies work better: retraining, help to move to where the jobs are, and better job information.
Frictional unemployment can be cut with better ways to match people to jobs, such as job websites and career advice. Seasonal unemployment can be eased by helping firms offer work all year round.
Each policy has limits. Raising demand can push up prices and widen the budget deficit. Supply-side policies are slow and cost a lot.
- Cyclical
- Expansionary fiscal and monetary policy.
- Structural
- Retraining and help with mobility (supply-side).
- Frictional
- Better job-matching information.
- Limits
- Inflation and deficits (demand-side); slow and costly (supply-side).
Worked example: Matching policy to cause
A country has rising unemployment among workers from closed factories, while tech firms report unfilled vacancies.
- Diagnose: vacancies exist, but workers lack the right skills. This is structural unemployment.
- Policy: subsidised retraining in digital skills, plus help to apply for the new jobs.
- Why not cut interest rates? More demand would not give these workers the skills the vacancies need.
Watch out for this
Increasing government spending will solve any kind of unemployment.
Higher demand helps with cyclical unemployment. Structural unemployment needs workers to gain new skills or move, so supply-side policies are needed.
Check your understanding
Which policy best reduces structural unemployment?
- Funding retraining courses for workers from declining industries
- Cutting interest rates
- Raising income tax