What is the "natural rate of unemployment"?

The natural rate of unemployment refers to the level of unemployment that exists when the economy is at full employment. This concept includes frictional and structural unemployment but excludes cyclical unemployment.

Frictional unemployment occurs when individuals are temporarily unemployed while transitioning between jobs, which is a normal part of a healthy economy. Structural unemployment arises from shifts in the economy that create a mismatch between workers' skills and job requirements. Thus, the natural rate reflects the baseline level of unemployment that occurs even in a well-functioning economy, where the labor market matches jobs with workers efficiently.

Understanding this concept is crucial as it helps to differentiate between temporary fluctuations in unemployment due to economic cycles (such as during recessions) and the underlying, longer-term trend that defines a more stable economy. Therefore, the natural rate of unemployment is not a static number but rather a dynamic measure that signifies the health of the labor market over time.