In economics, full employment has more than one meaning. To many laypeople, it means zero unemployment or underemployment. To economists, it means the lowest level of unemployment that can be sustained given the structure of the economy. In standard macroeconomics, when unemployment equals the NAIRU the real gross domestic product equals potential output.

For modern macroeconomics, full employment means that there is no unemployment above the level of the "natural rate of unemployment", i.e., there is no cyclical or deficient-demand unemployment. If the unemployment rate stays below this "natural" or "inflation threshold" level, it is posited that inflation will accelerate, i.e., get worse and worse (in the absence of wage and price controls). The theory says that inflation does not rise or fall when the unemployment equals the "natural" rate. This is why modern economists most often call the latter the Non-Accelerating Inflation Rate of Unemployment, or NAIRU. This usage also reflects the fact that there is nothing "natural" about an economy.

The level of the NAIRU depends on the degree of "supply side" unemployment, i.e., joblessness that can't be abolished by high demand. This includes frictional, structural, classical, and Marxian unemployment.

An alternative definition (used by some labor economists) would see "full employment" as the attainment of the ideal unemployment rate, where the types of unemployment that reflect labor-market inefficiency (such as structural unemployment) do not exist. Only some frictional unemployment would exist, where workers are temporarily searching for new jobs.

Whatever the definition of full employment, it is difficult to discover exactly what unemployment rate it corresponds to. In the United States, for example, the economy saw stable inflation despite low unemployment during the late 1990s, contradicting most economists' estimates of the NAIRU. Worse, the NAIRU doesn't stay the same over time -- and can change due to economic policy. For example, some economists argue that British Prime Minister Margaret Thatcher's anti-inflation policies using persistently high unemployment led to higher structural unemployment and a higher NAIRU.

The active pursuit of national full employment through interventionist government policies is associated with Keynesian economics and marked the postwar agenda of many Western nations, until the stagflation of the 1970s.

Australia was the first country in the world in which full employment in a free society was made official policy by its government. On May 30, 1945, The Australian Labor Party Prime Minister John Curtin and his Employment Minister John Dedman proposed a white paper in the Australian House of Representatives titled Full Employment In Australia, the first time any government apart from totalitarian regimes had unequivocally committed itself to providing work for any person who was willing and able to work. Conditions of full employment lasted in Australia from 1941 to 1975.

Ideas associated with the Phillips curve have questioned the possibility and value of full employment in a society: this theory suggests that full employment will be associated with positive inflation. There has also been criticism of full employment policies by many economists, particularly by monetarists such as Milton Friedman who believe that full employment decreases productivity and efficiency and helps cause inflation. Rather than trying to attain full employment, Friedman argues that policy-makers should try to keep prices stable (a low or zero inflation rate). If this policy is sustained, he suggests that the economy will gravitate to the "natural" rate of unemployment automatically.