Job search/Frictional unemployment Theory

In line with MOE's initiative to make learning come alive for students, this is yet another part of the series by TosH on applying economic theory to real life situations.

I was reading my Labour Economics textbook just now (Yes, I am mugging even during holidays...scary eh?) and came across this theory on unemployment which is called the job search theory, which helps to explain the existence of frictional unemployment.

In this theory, the average worker faces a range of different jobs. These jobs differ in the wages they offer. However, each worker doesn't know the exact wage of the next job offer he/she will get due to uncertainty or lack of information. He/she only gets one job offer per period and he or she has to decide whether to take it. If the worker refuses the job, he or she loses the offer and continues to search the next period for a new job. How does the worker decide whether to take the job or not? He or she will decide by comparing the wage on offer and his/her (from now on I shall use just the male version) asking wage. The asking wage is the minimum wage that he would be willing to take on the job. This asking wage is hence determined by the marginal benefit and marginal cost of an extra search (which I shall not elaborate on further because I can sense some of you sleeping by this point....)

So of course if the asking wage is set too high, there are fewer wage offers which exceed the asking wage, so the worker will have a higher probability of rejecting the offer and thus remaining unemployed. If the asking wage is set very low, there are more jobs out there which offer wages higher than this asking wage and the worker will be more likely to find a job which he will accept and thus become employed again.

Because it is unlikely that for every worker, the first offer he gets exceeds his asking wage, there will be some form of frictional unemployment. The worker will spend some time being unemployed to find a BETTER job. However, if he is unemployed for too long, he might lower his asking wage as the costs of his unemployment becomes larger and larger (for example he might have used up his savings....). In the end, he might end up with a job that has a lower wage than the job offers that he had rejected last time. In short, he might be better off if he had been less picky (having a lower asking wage) initially.

So how can we apply this to everyday life? Let's consider shopping shall we?

Suppose TosH wants to buy an iPod. So off he goes to Sim Lim Square to buy an iPod. Now it is well known that TosH is a scrooge. He hates being ripped off. He wants to buy the iPod at the lowest LOWEST price possible. Thus he sets an unrealistically low maximum price that he is willing to pay. But there are a lot of shops selling iPods there and he doesn't know the range of possible prices he can get from the shops there beforehand. So he has to go around asking for the price, bargain with shopkeepers until the lowest possible price from each shop is reached. However, he is not sure whether the store next door can give him a lower price or not, so he politely excuses himself after bargaining and off he goes to the next store to start the process all over again.

However, after he leaves the store, the same offer might not come back again. The shopkeeper might be du lan at him for not buying after bargaining for so long and so he doesn't give TosH the bargained price the next time he goes back. Or the shop might have so coincidentally sold its last iPod and cannot sell it to TosH anymore. The shop might have been raided by police for pirated VCDs etc etc. So at each shop, TosH has to compare the bargained price and the maximum price he is willing to pay and decide if he can get a lower price next door.

If he sets his expectations too high (ie the maximum price he is willing to pay is too low), he might not be able to buy an iPod even after going through all the stores. When he decides to go back to the lowest priced store, the store might not sell it to him anymore. By this time, he is tired, du lan or the person he had dragged along to help him bargain might be pissed off. So he lowers his expectation (sets the maximum price higher) and in the end manages to get an iPod. But he could have done better if he had set a more realistic maximum price initially and accepted the price from the lowest priced store.

The implications are clear: if you continue to search, you might find a lower price; but if you continue to search, you might not get back the offer which in the end turn out to be the lowest.

Humans are always fuelled by a never ending desire to do better. We are always looking for the lowest price, the highest paying job (we can possibly get...), the quietest room and of course, the best life partner we can get. Thus, we search. However, some people are able to set a more realistic target than others, and thus they end up with the item (that they want to buy), job, home or life partner more quickly than others.

Others, however, set very high targets initially. They want the prettiest, slimmest, richest, smartest, hottest, most caring, with the nicest hair girl out there. When they meet someone, they feel that they can do better, and so they continue searching. But alas, days, months, years and even decades go by without them meeting someone who meets their "asking wage", even if some of the people they meet are already VERY good.

As time passes by, they realise they are not getting younger. Their belly is showing. Their hair is dropping. Their wrinkles are appearing. They are getting less fertile. They start to lower their expectations. And they might or might not end up with someone in the end. Eventually, they might even lower their expectations so much so as to marry anyone just to carry on the family line. However, need this be the case? It definitely need not be if they had not been so picky in the first place. If they had realised that the person they had met in school or at work was actually quite good, they needn't have ended up with a China bride who just wants their money when they die.

So what is the moral of the story? Some form of searching/time spent searching is inevitable, just like some job search is inevitable. Nobody takes the first job/person that comes along. However, setting too high an asking wage/expectation is definitely unhealthy. It lengthens your unemployment spell, and you might not get anything better at the end of it all.

Hindsight is a beautiful thing, however they are about as useful as the backside.

After note: somehow this piece didn't quite achieve the high hopes that I had before I started writing it. Something seems to be missing. Can anybody help me?