Essay on Inflation and Unemployment

1.1 Executive Summary

The main objective of this report is to determine the factors that led to the issue of unemployment and disturbed the economy of Pakistan from 1999 to 2010. Unemployment is a very serious problem that causes the decline in the economic growth of a country and that also affects the international status of that country. To study the determinants of unemployment in Pakistan ordinary least square model is used. This report focuses on foreign direct investment, inflation rate, gross domestic product, and population growth to determine the effect of these independent variables on the unemployment rate during 1999-2010 in Pakistan. Findings show that there exists a positive relation between growth rate and unemployment. The trade-off between inflation and unemployment is also confirmed through these findings. To resolve the problem of unemployment a country must control its population growth. New jobs should be created. Further research on other determinants of unemployment must be taken into account.

Keywords: Foreign Direct Investment, Gross Domestic Product, Population Growth, Inflation Rate

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1.2 Introduction

Unemployment is defined through different perspectives. In simple terms, it can be defined as a situation in which people are able and want to do work but there are not enough job vacancies available for them. This problem is mainly faced by less developed countries like Pakistan, India, Bangladesh, Niger, etc. This report focuses on the determinants of unemployment in Pakistan during 1999-2010.

1.2.1 Background Information

In Pakistan, for some past years, it has been observed that unemployment is constantly increasing, and to find out the causes of this problem different research and reports have been prepared. Inflation rate, economic recession, and industrial decline are the basic determinants of unemployment. In the 1990s out of 35.1 million of the labor force, nearly 2 million were unemployed. With the passage of time unemployment goes on increasing and causes the economy of Pakistan to decline.

1.2.2 Purpose

The purpose of this report is to find the determinants that led to the problem of unemployment in Pakistan from 1999 to 2010.

1.2.3 Significance of the study

This report provides much more help to the government department which is responsible for the control of unemployment in the country by comparing this study with the previous one and then applying the statistics to interpret the data and also help in deciding for further resolution of the problem of unemployment.

1.2.4 Scope of the study

This study has been conducted to study the determinants of unemployment in Pakistan from 1999 to 2010. The results may be different in further research and reports. Only those persons who are fired from their jobs due to economic issues, organization restructuring, or industrial decline are included in the problem of unemployment. Children, students, and retired persons are beyond the scope of this report.

1.2.5 Limitations of study

The results, conclusions, and findings of this study do not apply to any other country except Pakistan. This report is also related to only the time frame of 1999-2010 in Pakistan.

1.3 Review of Related Literature

Unemployment is becoming a critical problem in Pakistan. It is a common issue in less developed as well as developed countries. Every country is paying greater attention to the solutions that apply to resolving the problem of unemployment. Various studies probe the determinants of unemployment. These studies are conducted at the micro as well as at the macro level. Buffie (1993) examines the relationship between foreign direct investment and unemployment. His findings determine that foreign direct investment in high-wage zones causes the packaging of domestic capital. The job search model (Lippman & McCall, 1976; Mortensen, 1970) also contributes to the report. This model tells us that the duration of unemployment depends upon the probabilities of accepting and receiving job offers. Unemployment affects negatively the unemployed person in such a way that they might engage in criminal activities. Individual and national income decreases which affects the economy of the country negatively. Elmeskov, et.al. (1998) study the relationships between unemployment and taxation in OCED countries for the period of 1983-1994.

Housman specification test is used in this study and it is concluded that both in the short as well as in the long run, taxation has a positive impact on unemployment. Studies showed that in the long run, taxation acts as a major determinant of unemployment. Izraeli and Murphy (2003) studied the effects of the degree of industrial diversification on unemployment rates and per capita income in seventeen states. This finding shows that there is a lower unemployment rate where there is a more diversified base country. Marika, et.al. (2007) to find out the relationship between capital stock and unemployment, studied the labor market. Iqbal, et.al (2010) find out the relation existing between growth and unemployment from 1972 to 2006.

1.4 Method of Study

This report determines that how the variation in gross domestic product growth, inflation rate, foreign direct investment, and population growth, which are independent variables, affected the unemployment rate in Pakistan during 1999-2010.

The data collected for previous projects rather than for the current project is referred to as secondary data. This report consists of 12-year data from 1999-2010. Data on each independent variable such as inflation rate, gross domestic product growth, foreign direct investment, and population growth is collected from different economic surveys of Pakistan. All the determinants of unemployment were taken as variables. Some of the secondary data is taken from IFS (International Financial Statistics).

The linear model was used in the study which is as follows:

Y = βo + βF + ℧

In the given equation

Y= Unemployment rate

β= Coefficient of independent variable

µ= Error term

In the above equation error term is supposed to have zero mean and is independent across periods.

1.5 Results and Discussion

According to the findings of the study, there are four independent variables used foreign direct investment, gross domestic product, inflation, and population growth. One dependent variable is unemployment. The findings of this study show the relationship between dependent and independent variables.

Empirical results showed that FDI, GDP, and INR (foreign direct investment, gross domestic product, and inflation) have an inverse relationship with unemployment. When foreign direct investment increases in any country the unemployment rate decreases because it provides new chances and helps in finding different kinds of jobs.

When GDP increases the unemployment rate decreases. GDP has an inverse relation with unemployment. T-test is one of the tests which is used for hypothesis testing in statistics. t-test is also used to encourage the null hypothesis. A null hypothesis is a type or hypothesis used in statistics that shows that no significance exists in a set of a given observation. The T-test has a value greater than two, because of this result Null hypothesis will be neglected in the case of the GDP factor. These results are according to the previous studies by khan, et.al (2010; Walterskirchen, 2008). The probability is less than 5% which is why the relationship between unemployment and GDP becomes significant. These findings are encouraged by previous literature (M.Rafiq, et al.,2010; Rizvi & Nishat, 2009; Iqbal, et.al.2010; Walterskirchen, 2008)

According to the Phillips curve (1958), there is an inverse relation between inflation and unemployment. When inflation increases the unemployment decreases. Therefore, inflation and unemployment are inversely related to each other. There is a significant negative relation between inflation and unemployment (M.Rafiq, et al.,2010). These findings are encouraged by Phillip (1958). The following graph shows a Phillips curve of the negative relation between inflation and unemployment.

With the help of these findings, it is clear that population growth is directly related to unemployment. When population growth increases unemployment also increases.

In previous studies, many researchers exposed that an increase in the level of population growth destroyed the economy and had a bad impact on macroeconomic variables (Kalim, 2003; M. Rafiq, et al., 2010).

The findings of the study show that in Pakistan the annual population growth has increased by 1.8% which is very high and it is a major cause of unemployment in Pakistan. This report indicates that 86% of the change in the dependent variable is due to foreign direct investment, gross domestic product growth, inflation rate, and population growth.

1.6 Conclusion

Unemployment is becoming a drastic issue all over the world. The ratio of unemployment is getting higher day by day and becoming hard to control. This report focuses on the determinants of unemployment in Pakistan. The main determinants during 1999-2010 were population growth, foreign direct investment, gross domestic product growth, and inflation. This report concludes that foreign direct investment, inflation rate, and gross domestic product growth are negatively related to unemployment. According to the findings of the report the main determinant which can be considered the key determinant of unemployment is population growth. Results indicate that in Pakistan during 1999-2010 with an increase in population growth, the unemployment rate got higher so, we can say that population growth has a positive relation with unemployment. This report concludes that there is one other major or significant factor that is seen contributing to unemployment is the trade-off between inflation and unemployment in Pakistan's economy. However, there is a need to do more research to find out whether this trade-off is short-run or long-run.

1.7 Recommendations

This report has determined the main determinants of unemployment in Pakistan during 1999-2010. By keeping in view these determinants government of Pakistan has paid a lot of attention to the control of unemployment in Pakistan. Many more researches and reports were examined. The government should adopt attractive policies to eradicate unemployment in our country. They should be focused on foreign direct investment. The government must encourage foreign investors to come and invest in Pakistan. Policymakers should be focused on the rate of gross domestic product that is beneficial in bringing down unemployment. The government should adopt the policies through which the population growth rate can be controlled. People should be made aware of the outcomes of large populations in the country as well as on individuals. Further researches are recommended including some more important variables such as exports, capital stock, labor market policies, etc. This research will help to get more authenticated results.

1.8 References

1. Buffie. (1993). Direct Foreign Investment, Crowding Out, and Underemployment in the Dualistic Economy. Oxford Economic Papers, 45(4), 639-667.
2. Elmeskov, J., Martin, J. P., & Scarpetta, S. (1998). Unemployment and Labor Market Rigidities in OECD Countries – The Impact of Taxes. Swedish Economic Policy Review, 5(2), 207-258.
3. Lippman, S., & McCall, J. (1976). The Economics of Job Search: A Survey (Vol. 14, pp. 155-189): Economic Inquiry.
4. M.Rafiq, Ahmad, I., ullah, A., & Khan, Z. (2009). DETERMINANTS OF UNEMPLOYMENT: A CASE STUDY OF PAKISTAN ECONOMY (1998-2008)
5. Aasyn Journal of Social Sciences, 3(1).
6. Marika Karanassou, Hector Sala, & Salvador, P. F. (2007). Capital Accumulation and Unemployment: Capital Accumulation and Unemployment: new insights on the Nordic experience. Economics Review, 90(2), 1223-1322.
7. Mortensen, D. (1970). Job Search, the Duration of Unemployment and Phillips Curve. American Economic Review, 30(847-862).
8. Rizvi, S. Z. A., & Nishat, D. M. (2009). The Impact of Foreign Direct Investment on Employment Opportunities: Panel Data Analysis, Empirical Evidence from Pakistan, India and China.
9. T. Hussain, Siddiqi, M. W., & Iqbal, A. (2010). A Coherent Relationship between Economic Growth and Unemployment: An Empirical Evidence from Pakistan. International Journal of Human and Social Sciences, 5(5).
10. Walterskichen, E. (2008). THE RELATIONSHIP BETWEEN GROWTH, EMPLOYMENT, AND UNEMPLOYMENT IN THE EU. Vienna: Australian Institute of Economic Research.