Long Term Unemployment in the US

Long Term Unemployment in the US

I. Some Background Information

Unemployment is considered a serious economic problem. This is because it always results in a substantial waste of society’s resources. Imagine what you could do if you could harness 9-10 million American workers. The Emperors of China never had so many people working for them at one time. Some readers might ask – what about inflation; isn’t inflation a serious problem? When compared with inflation, unemployment is clearly a much more important problem. Ask yourself whether raising the inflation rate from 3% to 4% would radically alter your lifestyle, especially if the rise was perfectly anticipated by everyone.

By contrast, unemployment affects the economy in many ways. For example, the waste of resources that attends unemployment naturally contributes to a worsening of the distribution of income and ultimately wealth. Moreover, a good paying and steady job is essential in human life. Not only does it promote a sense of accomplishment and self-esteem in people, it also forms a major part of actually defining an individual’s personality. We are in some sense what we produce. To be unemployed over an extended time is to feel unwanted, excluded, and forgotten — not to mention, it makes one poor. Consider the feelings of an unemployed father or mother who must look each day at their children going hungry or otherwise being deprived due to extended unemployment. The psychological hurt is unquestionably profound and intense.

Who is to blame for widespread unemployment? No doubt, part of this is due to each individual who does not properly prepare himself or herself for a potential loss of their job. Each mature and forward-looking individual must ultimately look at the job market as a constantly changing set of circumstances. We are told that people today potentially face changing jobs three or four times during their life. Some of these changes may be because of a step up on the ladder of progress. At other times it may be because of downsizing and the elimination of jobs. As such, it is clearly the individual who must begin early-on gathering sufficient marketable skills that will make displacement from one job a mere temporary setback, rather than a catastrophe in need of government intervention and dependency. No government or policymaker can determine the right job for someone. Certainly you would not want the person at the post office or police department determining your job for you. A job should be what you want to do, not what others tell you to do. Likewise, the government will not be able to inculcate skills into you unless you are freely willing to learn and sacrifice. You must freely choose, and not be forced. You must be motivated to escape from unemployment.

Some people may point to the US military and note that the armed services provide a wonderful platform for the learning of job skills and eventual reincorporation into the private sector of millions of people with good pay. Indeed, the US military has been a remarkable source of occupational training for many Americans. However, the military is not an environment of free and open choice. It is a tough disciplined regime that requires results. Non-military government sponsored training programs are not like military training programs at all. They are much less authoritarian and therefore quite naturally suffer from a lack of interest and resolve on the part of the students. Only a small percentage of people who are unemployed make use of these publically sponsored civilian training programs. Job training is not a particularly successful part of government services, although there are many dedicated people hard at work trying to make job training work. Remember that many of these people who are in job training are the same people who failed high school or didn't work hard in class. The upshot of all this is that we must always remember that any policies that the government uses to help the unemployed cannot really induce people to want to work more, to study more, and to sacrifice more. Such motivation must come from inside the person themselves and from a desire to better oneself. In free economies, people must be willing to accept the freedom of choice combined with the personal responsibility of seeing that they are ready for today’s job market.[1]

Despite the fact that employment must always be a matter of the individual wanting to work and adapt, there is still truth to the assertion that certain unexpected vagaries of the market can suddenly and heartlessly deprive large numbers of people of work. The problem is usually (but not always) insufficient demand. If vast numbers of businesses are not able to sell their products to buyers, they will not need to employ workers. This means that a positive business environment must be one that promotes a strong, balanced, predictable, and sustainable demand. This is not to say that a surge in the demand for a single industry's product is good. On the contrary, a rise of demand that pushes say the construction of houses only, and all the small industries that feed construction, can actually be disastrous in the end. In this case business becomes geared to producing houses and suddenly finds that the market is soon saturated with houses, with nobody wanting to buy at current prices. Down goes the housing industry. But, that is not all. The fall in housing takes with it the construction industry, the wood, glass, paint, terracing, banking, rug, and plastic industries, just to name several related sectors. These sectors then pull down the industries that supply their production and the economy continues to shrink.

Why does this happen? Clearly, this occurs because the demand that was stimulated was in one industry only, without any sustainability, and to the exclusion of all else. Often government policies that are designed to benefit the economy become centered in one industry and, when this industry becomes saturated, massive unemployment results. Signals get crossed and millions of people who formerly felt they had safe jobs in construction and other industries find themselves unemployed.[2] Thousands of businesses formerly geared to producing houses find they must reverse course, leading to the displacement of millions of workers. Of course, these workers do not adjust to reality so quickly. Families are torn apart with perhaps the husband unemployed, the wife working steadily, the children in school, with friends, church, and social relations built up. There is a natural desire to hang on as an unemployed worker, using social services and family ties to tide things over, all the while waiting for things to possibly turn around. The government, seeing so many people in trouble, particularly in housing and related industries, decides it should help ameliorate the situation by again stimulating the construction industry…so we get even more houses that are unwanted at current prices. If there are too many houses, why stimulate the building of even more, by lowering interest rates and easing credit?

Regardless of whether the collapse of demand occurs because of coordination failure of the free market, or whether it occurs because of the distortion of signals by government policies, the end result is a heavy concentration of economic activity in a few sectors - as more firms pile into the booming industry, the quality of firms falls and these marginal companies are destined to fail. Similar to the Peter Principle from management science, booming industries expand up to the level of their own incompetence, leading to an inevitable bust. The boom places many of “society’s eggs in a single basket”, something we know is not particularly helpful. [3]

II. Types of Unemployment

One frequently used source of unemployment statistics in the US is the household survey done by the Census Bureau each month (the survey began in 1940). As many as 60,000 households are interviewed by 2200 census workers. The sample is carefully selected from well over 800 geographic areas in the US to reflect societal characteristics known to exist for the nation as a whole. Each household remains in the sample for a four month period and then is excluded for an 8 month period. It returns again to the sample for the same four months and then is abandoned. Such intermittent sampling reduces the weight any one household has on the figures. There is also a complicated weighting of the figures that are collected which correct for age, sex, race, etc. To be part of the labor force, an individual must be 16 years of age or older. By interviewing each member of the household, the census worker can assign one of three possible classifications to each person who is 16 years of age and older and is not in the military or in an institution — each will be employed, unemployed, or not in the labor force. [4]

The rate of unemployment is then defined as a ratio given by

where = number of people unemployed and = labor force = employed + unemployed. Both and can change. In fact, an important theorem is that an equal decrease in and will reduce the unemployment rate (prove this). This last case is extremely important. Often people who are unemployed too long will give up looking for a job. They exit the ranks of the unemployed and decreases. Since the number of employed has not changed and the number of unemployed has decreased, both the top and bottom of the ratio above decrease by equal amounts. Thus, an increase in the number of discouraged workers (unemployed who leave the labor force) can lead to a decrease in the unemployment rate. This is a totally unexpected result, but is nevertheless true by virtue of a deductive certitude.

The discussion above shows that month to month movements in the unemployment rate may be due to subtle reasons and not simply due to movements in the number of unemployed. As we have seen, a fall in the labor participation rate will lead to a fall in the unemployment rate, if unemployed become discouraged.

The unemployed can be (theoretically, at least) divided into four distinct groups: the frictionally unemployed, the seasonally unemployed, the cyclically unemployed, and the structurally unemployed.[5] Those structurally unemployed represent the greatest challenge to economic policymakers. High structural unemployment tends to create high long term levels of unemployment and high levels of discouraged workers. This in turn raises greater government dependence and higher rates of social problems such as alcoholism, suicide, crime, and divorce. By definition, the other forms of unemployment do not last long and therefore should not significantly exacerbate the trend in dependence and social problems.

III. Structural Unemployment in the US

In order to obtain a careful analysis of structural unemployment in the US, we must have data on long term unemployment. The survey data above does collect such data. Before considering this however, we first look at the overall unemployment rate including all four types of unemployment combined. We focus on the long run trend in unemployment as a proxy for a more formal measure of structural unemployment.[6] The graph in Figure 1 indicates that the long run trend in unemployment in the US rose from 1950-1980, and after that time it declined. The rapid rise in the unemployment rate after the financial crisis is obviously not part of the long term structural unemployment rate in the US. There is some worry however that the structural unemployment rate may have increased since the unemployment rate in America remained too high from 2008.

Figure 1

Note how that the unemployment rate in Figure 1 rises and falls during contractions and expansions, respectively. The rise in the unemployment rate for most of these recessions averages around 3 percentage points. Judging from the performance of unemployment from 1995 – 2008 a rough measure of long term unemployment (including both structural and frictional) would be around 5.5%. The fear today is that the prolonged unemployment in US is pushing more and more people into the ranks of the long term unemployed. The US government is currently trying to reduce the unemployment rate to its long run trend of 5.5%. Okun’s Law states that each 1% fall in the unemployment rate raises real GDP 2% above its potential..

Figure 2 shows the percentage of unemployed who have remained unemployed for 27 weeks or longer. Note how that there is a clear upward trend in these figures. Using a straight linear trend, we can guess that the current percentage of unemployed that are long term structurally unemployed is about 23%. Now we can estimated the long term structural unemployment rate as follows

Figure 2

Using the formula for the unemployment rate we first note that the current rate (2015) in the US is about 5.5%. Thus, out of a labor force of roughly 150 million, approximately 8.25 million people do not have work. If 23% of this 8.25 million people have been unemployed at or over 27 weeks, this would be nearly 1.9 million people. The long term structural unemployment rate (not including frictionally unemployed or discouraged workers) would be

or about 1.3% of the labor force. This is a very conservative figure indeed. It says that about 24% of the natural unemployment rate of 5.5 % would be entirely due to frictional or structural reasons. The 1.3% we have calculated represents people who have been actively seeking a job, but have not been able to secure one for 27 weeks or more due mainly to their apparent lack of appropriate skills.[7]

We should not forget that there has been a steady drop in the labor force participation rate since the year 2000 as is shown in Figure 3. The rate leveled off beginning in 1990, but it began a furious drop starting in the year 2000. The participation rate is the ratio of labor force to those 16 years and older. Many people choose not to seek a job; some are housewives, some are students, while others may have entered early retirement. The rise in the rate from the 1960s