CEA Labor Economics and Human Capital 2 — Questions and Answers
Question 1: Structural unemployment occurs when:
- Workers temporarily leave jobs to search for better-paying opportunities
- There is a persistent mismatch between workers' skills and the requirements of available jobs (Correct answer)
- Aggregate demand falls below the full-employment level of output
- Seasonal fluctuations temporarily reduce demand for certain types of labor
Correct answer: There is a persistent mismatch between workers' skills and the requirements of available jobs
Structural unemployment results from long-term changes in the economy — such as technological shifts or industry decline — that create skill or geographic mismatches between workers and openings.
Question 2: The 'discouraged worker effect' describes individuals who:
- Accept lower wages because they have weak bargaining power
- Stop actively searching for work because they believe no suitable jobs are available (Correct answer)
- Reduce on-the-job effort when facing credible layoff threats
- Retire early in response to deteriorating labor market conditions
Correct answer: Stop actively searching for work because they believe no suitable jobs are available
Discouraged workers have withdrawn from active job search and are excluded from official unemployment statistics, causing measured unemployment to understate true labor market weakness.
Question 3: The insider-outsider theory of wage determination proposes that:
- Wages are set purely by external market forces of labor supply and demand
- Currently employed workers (insiders) use bargaining power to maintain above-market wages at the expense of job seekers (outsiders) (Correct answer)
- Wages reflect bilateral monopoly bargaining between unions and monopsonistic employers
- Labor markets clear instantly through perfectly flexible nominal wage adjustment
Correct answer: Currently employed workers (insiders) use bargaining power to maintain above-market wages at the expense of job seekers (outsiders)
The insider-outsider model shows that insiders exploit their position to keep wages high, creating entry barriers for outsiders and explaining persistent unemployment.
Question 4: Regarding on-the-job training, human capital theory predicts that:
- All training costs are fully funded by the government to reduce skill gaps
- General training costs are borne by workers while firm-specific training costs are shared between workers and employers (Correct answer)
- Employers fund all training — both general and firm-specific — to maximize retention
- Workers bear all training costs regardless of whether skills are general or firm-specific
Correct answer: General training costs are borne by workers while firm-specific training costs are shared between workers and employers
Because general skills benefit any employer, workers pay via lower wages during training; firm-specific skills benefit only the current employer, so costs and returns are shared.
Question 5: Skill-biased technological change (SBTC) is primarily associated with:
- Declining returns to education as machines increasingly replace skilled workers
- Rising wage inequality as technology increases relative demand for high-skilled labor (Correct answer)
- Equal productivity gains for all workers regardless of education or skill level
- Reduction in structural unemployment through automation replacing routine tasks
Correct answer: Rising wage inequality as technology increases relative demand for high-skilled labor
SBTC theory holds that new technologies complement high-skilled workers and substitute for low-skilled workers, widening the wage distribution and increasing earnings inequality.
Question 6: Frictional unemployment is best described as:
- Unemployment caused by an economic recession reducing aggregate demand for labor
- Short-term, voluntary unemployment arising from the normal job search and matching process (Correct answer)
- Long-term joblessness due to workers' skills becoming technologically obsolete
- Unemployment resulting from predictable seasonal variation in labor demand
Correct answer: Short-term, voluntary unemployment arising from the normal job search and matching process
Frictional unemployment is temporary and reflects the time required for workers and firms to find suitable matches, even in a healthy labor market.
Question 7: A binding minimum wage set above the competitive equilibrium wage will, in a standard competitive labor market, most likely result in:
- Increased employment as firms expand production to meet consumer demand
- A surplus of labor (unemployment) as quantity of labor supplied exceeds quantity demanded (Correct answer)
- No change in employment if workers have strong non-wage preferences for the job
- Higher wages for all workers, including those in unaffected skill tiers
Correct answer: A surplus of labor (unemployment) as quantity of labor supplied exceeds quantity demanded
A price floor above equilibrium creates excess supply — in the labor market, more workers want jobs at the minimum wage than employers are willing to hire, producing unemployment.
CEA Labor Economics and Human Capital 2
Structural unemployment occurs when: