Question

Suppose that at the peak of the business cycle the United States dramatically increases benefits for unemployed workers. Explain what will happen to the natural rate of unemployment.

Short answer

The natural unemployment rate will increase since increased unemployment benefits will increase frictional and structural unemployment, which are the components of the natural rate of unemployment.

Step-by-step solution

The natural rate of unemployment

The natural rate of unemployment = frictional unemployment + structural unemployment.Frictional unemployment is the unemployment of time in which people are searching for suitable jobs for themselves. On the other hand, structural unemployment is when there are too many job seekers and too few job opportunities.

In this case, the government has increased the unemployment benefits; it is said that generous amounts of unemployment benefits increase both structural unemployment and frictional unemployment since people are willing to choose to stay unemployed to receive the benefits. Since the natural rate of unemployment comprises frictional and structural unemployment,an increase in these will increase the natural rate of unemployment.