Journal Issue
IMF Working Paper Summaries (WP/95/1 - WP/95/61)

Summary of WP/95/7: “Evaluating Unemployment Policies: What do the Underlying Theories Tell Us?”

International Monetary Fund
Published Date:
August 1995
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This survey is based on a simple idea that has received lamentably little attention in the literature on unemployment policy: different unemployment policies are generally based on different theories of unemployment, and confidence in a policy should depend--at least in part--on the ability of the underlying theory to account for some prominent empirical regularities in unemployment behavior. In particular, the paper evaluates unemployment policies in advanced market economies by examining the predictions of the underlying macroeconomic theories.

The paper considers four types of policies. First, the laissez-faire policy stance implies that the government should do little or nothing to influence unemployment. This stance is supported by the natural rate theory, the intertemporal substitution theory, and the real business cycle theory.

Second, demand-management policies, based on Keynesian and New-Keynesian theories, as well as on recent developments concerning transmission mechanisms between labor and product markets, cover both government employment and macroeconomic policies aimed at changing product demand.

Third, supply-side policies, designed to raise the productivity of workers across the board, comprise a variety of measures, including reductions in payroll taxes, government infrastructure investment, and improvements in information dissemination. The paper shows how the market failures addressed by these policies are analyzed through search theory, implicit contract theory, and efficiency-wage theory.

Fourth, institutional policies aim to change labor market institutions to reduce unemployment. Labor union theories, bargaining theories, and insider and outsider theories can shed light on how these policies operate. The policies include reform of wage-bargaining systems, measures to reduce labor turnover costs, job search support for the long-term unemployed, worksharing, early retirement, actions to reduce barriers to the creation of new firms, profit sharing, reform of unemployment benefit systems, recruitment subsidies, training subsidies, and benefit transfers.

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