Question

"The economic cost of unemployment is measured by the GDP gap.” Explain this statement.

Marcoeconomics

Answer 1

GDP gap is defined as the difference between Potential GDP and actual GDP.

Potential GDP is the level of output at the natural rate of unemployment.

Thus, the gap between actual and potential GDP shows us the losses of real goods and sevices in money value when there is deviation from the natural unemployment rate.

The losses in the real goods and services are thus due to labour not being fully employed i.e. unemployement.

Economic cost basically means the sacrifice involved in performing an activity. Due to unemployment, the country has to sacrifice by losing those goods and services.

Thus the economic cost of unemployment is the monetary loss of those goods and services.

Therefore, we conclude the economic cost of unemployment is measured by GDP gap.

This gap increases during recessions and closes during expansions.

The most relevant measure is that of Okuns Law.