Wednesday, March 5, 2008

Unemployment and the Unemployment Rate

Of all economic statistics, the unemployment rate is probably the one that gets the most headlines, so it is important to understand what it doesn't tell us. Doing so can help us understand why so many people seem unhappy with the state of the economy, even as the unemployment rate (4.9%) is low by historical standards.

In his Economic Scene column, David Leonhardt points us to the increase in the number of people who are not employed, but not looking for work (and therefore not counted as unemployed):
Consider this: the average unemployment rate in this decade, just above 5 percent, has been lower than in any decade since the 1960s. Yet the percentage of prime-age men (those 25 to 54 years old) who are not working has been higher than in any decade since World War II. In January, almost 13 percent of prime-age men did not hold a job, up from 11 percent in 1998, 11 percent in 1988, 9 percent in 1978 and just 6 percent in 1968.

Even prime-age women, who flooded into the work force in the 1970s and 1980s, aren’t working at quite the same rate they were when this decade began. About 27 percent of them don’t hold a job today, up from 25 percent in early 2000.

There are only two possible explanations for this bizarre combination of a falling employment rate and a falling unemployment rate. The first is that there has been a big increase in the number of people not working purely by their own choice. You can think of them as the self-unemployed. They include retirees, as well as stay-at-home parents, people caring for aging parents and others doing unpaid work.

If growth in this group were the reason for the confusing statistics, we wouldn’t need to worry. It would be perfectly fair to say that unemployment was historically low.

The second possible explanation — a jump in the number of people who aren’t working, who aren’t actively looking but who would, in fact, like to find a good job — is less comforting. It also appears to be the more accurate explanation.

Various studies have shown that the new nonemployed are not mainly dot-com millionaires or stay-at-home dads. (Men who have dropped out of the labor force actually do less housework on average than working women, according to Harley Frazis and Jay Stewart of the Bureau of Labor Statistics.)

Instead, these nonemployed workers tend to be those who have been left behind by the economic changes of the last generation. Their jobs have been replaced by technology or have gone overseas, and they can no longer find work that pays as well. West Virginia, a mining state, is a great example. It may have a record-low unemployment rate, but it has also had an enormous rise in the number of out-of-work men.

That is, we have seen an increase in the number of "discouraged workers" who no longer are actively looking for work. The unemployment rate is the percentage of the labor force who are unemployed; to be counted in the labor force, one must be working or looking for work. So when an unemployed person gives up looking and drops out of the labor force, the unemployment rate actually falls. An increase in discouraged workers would be reflected in a falling labor force participation rate (% of people over 16 who are in the labor force).

Although by the NBER's reckoning, the last recession ended in November 2001, the labor force participation rate (red line) has not recovered. It also takes an unemployed person longer to find a new job now - the median duration of unemployment spells (blue line) remains above its pre-recession level. On Sunday, the Times' Peter Goodman looked at the weakness of the labor market. The anecdotes in his article are a reminder that the pain that appears modest in aggregate economic statistics is really quite severe for some.

For more on labor force participation, see the links at the end of Mark Thoma's post on Leonhardt's column.

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