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8.5 End-of-Chapter Material

In Conclusion

Europe and the United States differ in many ways. From the perspective of macroeconomists, some of the most striking differences are in the laws governing labor markets.

In the United States, labor markets are relatively flexible. It is relatively easy for firms to hire and fire workers, and it is relatively easy for workers to move between jobs. This brings many benefits to the economy as a whole, the most important being that it helps ensure good and productive matches between workers and firms. It also has some less attractive implications, particularly for workers. Job security is very limited, and workers might find themselves out of a job with very little warning.

In Europe, labor markets tend to be more rigid. We have explored some of the ways in which this is true. Minimum wages are often higher, unemployment insurance is more generous, and the costs of hiring and firing workers are greater. As a consequence, European countries are typically characterized by higher unemployment than the United States. In addition, unemployment duration tends to be longer: workers who become unemployed tend to take longer to find a new job. This makes the labor market a more difficult place for workers who do not have jobs but a better place for those who do have jobs because they typically enjoy higher salaries and greater security.

We have analyzed the differences between these two parts of the world, but we have not explained why these different economies have settled on such different configurations of labor laws. The explanation is not simple and goes well beyond economics into questions of history, politics, and sociology. Still, there is probably some truth in the simplest explanation: voters have different preferences about how their working lives should look. Perhaps voters in Europe prefer a world of greater job security for the employed, even if it comes at the cost of unemployment problems and a less-efficient economy. Perhaps voters in the United States prefer a dynamic economy, even if it comes at the cost of more uncertainty for working people.

Key Links


  1. A Washington Post article quoted the following opinion from a French student.Molly Moore, “French Students Hit Streets to Protest New Labor Law,” Washington Post, World News, March 17, 2006, accessed July 7, 2011, Do you agree or disagree with these views? Do you think of the labor market experience in your country differently?

    “They’re offering us nothing but slavery,” said Maud Pottier, 17, a student at Jules Verne High School in Sartrouville, north of Paris, who was wrapped in layers of scarves as protection against the chilly, gray day. “You’ll get a job knowing that you’ve got to do every single thing they ask you to do because otherwise you may get sacked. I’d rather spend more time looking for a job and get a real one.”

  2. (Advanced) What effect does unemployment insurance have on the savings behavior of employed households? Think about the life-cycle model, discussed in Chapter 13 "Social Security" (and in the toolkit). How would you add the prospect of unemployment to the household’s life-cycle decisions on consumption and saving?
  3. Explain how each of the following factors might affect the duration of unemployment for a single unemployed worker: (a) rate of unemployment in the economy, (b) age of the worker, (c) skills of the worker, (d) country of the worker, (e) generosity of unemployment insurance, (f) wealth of the worker, and (g) employment status of the worker’s spouse. What other factors can you contribute to this list?
  4. The following table contains information about worker output in two jobs. Explain why worker B has an absolute advantage in both jobs. What is the most efficient assignment? Which worker has a comparative advantage in job 1? Calculate the opportunity cost of assigning the workers to job 2. Which worker has a lower opportunity cost of taking job 2?
  5. Consider the following job assignment problem based on the table titled “Output Level per Hour from Assigning Jobs”. Here there are three workers, three jobs, and the prospect of not working. In the table, the value of output produced not working can be interpreted as the value of either leisure time or the output produced at home (say, in the garden). Find the optimal assignment of workers to jobs. Should anyone be unemployed? If not, how would you change the table so that someone was not working?
  6. Explain why making it easier to fire people might reduce the unemployment rate.
  7. Suppose that there is a legal minimum wage, set in nominal terms. Draw a diagram to show how this can lead to unemployment. Now suppose that there is inflation. What happens to the employment rate? What happens to the unemployment rate?

    Table 8.3 Output Level per Day in Different Jobs

    Worker Job 1 Job 2
    A 1 9
    B 2 12

    Table 8.4 Output Level per Hour from Assigning Jobs

    Worker Job 1 Job 2 Job 3 Not Working
    A 10 12 6 0
    B 8 1 1 2
    C 6 3 5 3

Economics Detective

  1. Go to the website for the Organisation for Economic Co-operation and Development (,2987,en_2649_201185_1_1_1_1_1,00.html). Find the latest table reporting unemployment rates in Europe. How is unemployment defined in this table?
  2. Find a recent discussion of employment protection laws across countries. In which countries are jobs most regulated? Has this changed much over time? Can you find any evidence relating the measure of employment protection laws with the unemployment experience of the individual countries?
  3. Go to the website for the Current Population Survey ( Develop a figure similar to Figure 8.6 "Worker Flows in the United States" for the current month. Why do the numbers differ from those reported in Figure 8.6 "Worker Flows in the United States"? Find a year when the United States was in a recession. What were the rates of job flows like during the recession?
  4. Find a discussion of the unemployment insurance that would apply to you if you lost a job where you currently live. Does it matter in your state/country why you are not currently employed? In your state/country, do you have to continue to look for a job to receive unemployment insurance? If so, what do you have to do?
  5. In Europe, is the amount of unemployment insurance determined by individual countries or by the European Union?
  6. Go to the website for the Bureau of Labor Statistics ( and find out what ages are classified as working age in the United States.