2 - Evaluating unemployment policies: what do the underlying theories tell us?

Summary

Introduction

This chapter is motivated by 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 our 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 behaviour.

Some theories depict unemployment as the efficient outcome of market activity. These usually serve to rationalise a laissez-faire policy stance. Others depict unemployment as the product of market failures. Here, unemployment must be seen as the symptom of many possible diseases: many different market failures can produce the same problem of joblessness. And just as different diseases require different treatments, so different market failures may call for different government policies. It is because different theories of unemployment focus on different market failures that different policies are generally based on different theories.

It is difficult to evaluate the various unemployment policies by assessing the practical significance of the market failures identified by the underlying theories. After all, market failures arise when people are not fully compensated for the costs and benefits they impose on one another, and uncompensated costs and benefits are inherently difficult to measure. For this reason, it is natural to evaluate unemployment policies by investigating the predictive power of the underlying theories.