Introduction

The thing to remember about unemployment is when unemployment goes up, wages go down. If people don’t have any money, you don’t have a good economy.

Businesses

Unemployment first directly affects those unemployed. People with low or no income begin spending less and budgeting more aggressively. When their savings is used up, their spending stops entirely or they are forced to use credit (using credit to stay afloat is a vicious cycle I will dive into another time). Since all businesses are dependent on customer spending, revenues inevitably decrease leading business owners to begin the same pattern as the customers: cutting costs to stay afloat and maybe even depending on credit.

The Cycle

When the customers don’t have jobs, they don’t have money and have to stop spending; when customers stop spending, business don’t have money and have to stop spending. Businesses cut costs by cutting hours and hiring less people. Unemployment rises more. You get a slowing unsustainable economy.

Tourism Economies

These cycles occur frequently in tourism and service-based economies. There are little to no major career opportunities so you have a lot people working in hotels and restaurants for minimum wage. When unemployment rises, the labor pool is so competitive the business owners have no incentive (or the budget if the business is weak) to pay any more than they are legally required. This strains the local economy, and makes it even more dependent on tourism income.

Real Estate

When tourist and service-based economies experience this strain, a demand for real estate development appears to bring in more locals with money. This creates a housing boom in the area as the economy is strained because no one has money because there are no opportunities, so land and housing is cheap.

Population Growth without Job Growth

Most of the people that move in will be people with plenty of money looking for a simpler life and a lot more fun. Many of them will be cash buyers, while others will have a mortgage. It’s at this phase, these people moving in need to be creating more jobs. If they are not high-value job-creating members of the community, inevitably the labor pool will be even more saturated as their money dries up due to housing costs being inflated by the local housing boom and population increase in an area that did not provide them opportunities to sustain it.

The Cycle Repeats

This cycle will repeat over and over again until it is either broken by government intervention where zoning laws are increasingly more strict to cap residential building as time passes since it is hurting the economy for the people already there, or you have a housing crash where there is a major trend in residents listing their homes for sale and moving and/or a vast increase in foreclosures.

Businesses Consistently Struggling

Businesses will see their margins consistently thin no matter how much residential growth there is in the area as long as job growth doesn’t equal or outpace the residential growth. Many small business owners especially will believe more is better, and they will miss the caveat where the more customers there are, the more prices will be inflated, and lower the wages will be, and the higher the unemployment will be.

This economic model is risky and common in emerging markets. Business owners should be brave enough to take a contrarian approach, focus on customer retention putting local regular customers ahead of one-off tourists, and manage their finances and business structure well because in this environment “growth” looks different than what people think.