conversableeconomist

A Third Kind of Unemployment?

Economists typically think of unemployment as falling into two categories. There is \”cyclical\” unemployment, which is the unemployment that occurs because of a recession. And there is \”structural\” unemployment–sometimes called the \”natural rate of unemployment\” or the NAIRU for \”nonaccelerating inflation rate of unemployment.\” This is the rate of unemployment that would arise in a dynamic labor market even if there was no recession, as firms expand and contract and people move between jobs. The level of structural unemployment will be influenced by factors that influence the incentives of people to seek out jobs (like the costs of mobility between jobs and the structure of unemployment, welfare, and disability benefits) and the incentives of businesses to hire (including rules affecting the costs of business expansion, rules affecting what firms must provide to employees, and even rule affecting the costs of firing employees, if necessary, later on).

Inconveniently, the unemployment that the United States is currently experiencing doesn\’t fit neatly into either of the two conventional categories.

After all, the recession officially ended in June 2009, according to the Business Cycle Dating Committee of the National Bureau of Economic Research.  However, the unemployment rate has been above 8% since February 2009, and in a February 2012 report on \”Understanding and Responding to Persistently High Unemployment,\” the Congressional Budget Office is forecasting that it will remain above 8% until 2014.

In a conventional economic framework, it\’s not clear how to make sense \”cyclical\” unemployment that persists for four or five years after the recession is over. However, the CBO and other forecaster have been predicting all along that the unemployment rate will eventually drop as the aftereffects of the Great Recession wear off, and in that sense it doesn\’t seem like natural or structural unemployment, either.

It\’s not clear what to call this persistent jobless recovery unemployment. \”Lethargic\” unemployment? \”Sluggish\” unemployment? \”Torpid\” unemployment? \”Tar-pit\” unemployment?

However you label it, this this is now the third consecutive \”jobless recovery,\” where it has taken a substantial time after the end of the recession for unemployment rates to come back down. It used to be that unemployment rates peaked almost right at the end of the recession, and the steadily dropped. Here\’s a graph of unemployment rates from the ever-useful FRED website of the St. Louis Fed. Periods of recession are shaded.

For example, when the 1974-75 recession ended in March 1975, unemployment was 8.6%. It climbed just a bit higher, to 9% in May 1975, but then fell steadily and by May 1978 was at 5.9%. Or look at the aftermath of the \”back-to-back\” recessions of 1980-81 and 1982. When the recession ended in November 1982, the unemployment rate was also peaking at 10.8%. It then dropped steadily and was down to 7.2% by November 1984 and 5.9% by September 1987.

In the jobless recoveries since then, the pattern has been different. When the 1990-91 recession ended in March 1991, the unemployment rate was 6.8%. But the unemployment rate kept rising, peaking more than a year later at 7.8% in June 1992. it wasn\’t until August 1993, more than two years after the economy had resumed growing, that unemployment rates had fallen back to the 6.8% rate that prevailed at the official end of the recession.

A similar pattern arose after the 2001 recession. At the end of that recession in November 2001, the unemployment rate was 5.5%. But then the unemployment rate kept rising, peaking out at 6.3% in June 2003. It wasn\’t until July 2004 that unemployment rates declined back to the 5.5% that had prevailed at the end of the 2001 recession.

In the most recent recession, unemployment was at 9.5% in June 2009, when the Great Recession officially ended. The official unemployment rate peaked at 10% in October 2009, and has drifted down since then. But in this recovery, the unemployment rate is an underestimate of labor market woes, because the official unemployment rate only counts those who are \”in the labor force,\” meaning that they are out of work but looking for a job. Those who have given up looking, or who are working part-time but would like full-time work, aren\’t counted as unemployed. The last few years have seen a dramatic drop in the \”labor force participation rate,\” that is, the share of adults who are \”in the labor force.\” This rate rose substantially from the 1970s through the 1990s as a greater share of women entered the (paid) labor force. But with job prospects so poor, it has been dropping off. 

The February 2012 CBO report describes the disconnect from the official unemployment rate to a broader appraisal of the U.S. labor market this way: \”The rate of unemployment in the United States has exceeded 8 percent since February 2009, making the past three years the longest stretch of high unemployment in this country since the Great Depression. Moreover, the Congressional Budget Office (CBO) projects that the unemployment rate will remain above 8 percent until 2014. The official unemployment rate excludes those individuals who would like to work but have not searched
for a job in the past four weeks as well as those who are working part-time but would prefer full-time work; if those people were counted among the unemployed, the unemployment rate in January 2012 would have been about 15 percent.\”

Our public discussions of what to do about these persistently high rates of lethargic or torpic unemployment have been unfortunately locked into the two older categories of cyclical and structural unemployment.

For example, some argue that if only the federal government had enacted an extra $1 trillion or so in fiscal stimulus, probably backed by a Federal Reserve willing to carry out another \”quantitative easing\” by printing money to finance the Treasury bonds for this stimulus, then the economy and the unemployment rate would be recovering much more quickly. But the federal government is in the process of running its four largest annual deficits since World War II from 2009 to 2012. The Fed is planning to hold the benchmark federal funds interest rate near zero percent for six years (!), while also engaging in $2 trillion of quantitative easing. The amount of countercyclical macroeconomic policy has been massive, and I have a hard time believing that just another boost would have fixed everything.

While I in general supported the countercyclical macroeconomic policies taken during the Great Recession (with some reservations about the details), it seems to me that countercyclical macroeconomic policy is like taking aspirin when you have a bad case of flu–or if you prefer a more extreme metaphor when talking about an unemployment rate that may exceed 8% for 7-8 years, like an athlete taking a cortisone shot for an injury before playing in the big game. Such steps can be worth taking, and they can sometimes even modestly help the healing process, but they are palliative, not curative. Also, the CBO offers a reminder that while more fiscal stimulus could help the economy in the short-term, it will injure the economy over the long run unless it is counterbalanced by a way of holding down government debt over time.

\”Despite the near-term economic benefits, such actions would add to the already large projected budget deficits that would exist under current policies, either immediately or over time. Unless other actions were taken to reverse the accumulation of government debt, the nation’s output and people’s income would ultimately be lower than they otherwise would have been. To boost the economy in the near term while seeking to achieve long-term fiscal sustainability, a combination of policies would be required: changes in taxes and spending that would increase the deficit now but reduce it later in the decade.\”

But the standard policy agenda for dealing with structural unemployment doesn\’t seem particularly on-point just now, either. Sure, it would be useful to encourage mobility between jobs and to rethink how regulatory and other policies affect incentives to work and to hire. But while this kind of rethinking is always useful, it\’s not clear that it addresses the reality of high unemployment here and now.

We need a convincing theory of this third kind of unemployment–sluggish unemployment, tar-pit unemployment–and an associated sense of what policies are useful for addressing it. Firms as a group have high profits and strong cash reserves, but they are not seeing it as worthwhile to raise hiring substantially, preferring instead to focus on getting more productivity from the existing workforce. Are there ways to reduce the costs and risks that firms face when thinking about hiring? Many households are struggling with outsized debt burdens, including those who have mortgages that are larger than the value of their home. Are there policy levers to help them move past their debt burdens?

Long-term unemployment is very high. CBO writes: \”[T]he share of unemployed people looking
for work for more than six months—referred to as the long-term unemployed—topped 40 percent in December 2009 for the first time since 1948, when such data began to be collected; it has remained above that level ever since.\” What do we know about getting the long-term unemployed back into the labor force?  Are there ways to encourage greater mobility of people between jobs, perhaps by spreading more information about job opportunities, making it easier for employers to verify skills of potential employees, or encouraging both greater geographic mobility and mobility across sectors of the economy?

Tolstoy famously started Anna Karenina with the comment: \”All happy families are alike; each unhappy family is unhappy in its own way.\” Each unhappy recession is unhappy its own way, too–and the Great Recession is quite different from previous post-war U.S. recessions. It needs some fresh thinking about policies to address what has happened.

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Recovery Delayed, Says CBO

Twice a year, the Congressional Budget office puts out \”The Budget and Economic Outlook,\” which provides budget and economic forecasts. After the report last August, I called my blog post Unrequited Economic Optimism from the Congressional Budget Office, because it predicted that in 2012, the fall in housing prices would bottom out and the unemployment situation and growth would improve a bit, which would finally be followed by much better news in 2013 and thereafter. However, the just-released January 2012 report dials back the optimism. Here\’s CBO (footnotes omitted):

\”CBO’s current economic forecast differs in some respects from its previous one, which was issued in August, as well as from the January Blue Chip consensus forecast (which is based on about 50 forecasts by private-sector economists) and the consensus of January forecasts by Federal Reserve Board members and Federal Reserve Bank presidents. 1 Compared with what it forecast in August, CBO is currently projecting weaker growth of real GDP in 2012 and 2013 but slightly stronger economic growth over the remainder of the decade … The current forecast also includes a higher unemployment rate and lower interest rates through 2021. CBO’s current projections for the growth of real  GDP in 2012 and 2013 are also weaker than those by the Blue Chip consensus and the Federal Reserve— perhaps owing to different assumptions about federal
fiscal policy—and CBO’s projections for the unemployment rate are higher.\”

Growth
Overall, CBO writes: \”A large portion of the economic and human costs of the recession and slow recovery remains ahead. In late 2011, according to CBO’s estimates, the economy was about halfway through the cumulative shortfall in output that will result from the recession and its aftermath.\” Here\’s a figure comparing the projected growth rate of the U.S. economy with a group of leading trade partners of the U.S., where their growth rates are weighted by their shares of U.S. exports. The countries are Australia, Brazil, Canada, China, the euro zone, Hong Kong, Japan, Korea, Mexico, Singapore, Switzerland, Taiwan, and the United Kingdom. A forecast like this one, which suggests the bad news slower growth than the comparison group now and for for several years, but faster growth later on, is inherently discomforting.

Unemployment

With bounceback more-rapid growth not kicking in to 2014, the unemployment rate is predicted not to fall much in the near-term, either. \”In CBO’s forecast, the unemployment rate in 2012 and 2013 remains largely
unchanged from its value last year. However, in the forecast, as growth picks up after 2013, the unemployment rate falls to 6.9 percent by the end of 2015 and 5.6 percent by the end of 2017.\”

Housing

CBO continues to believe that housing prices will bottom out in the second half of 2012, which would help a lot of U.S. households feel more secure. However, a historically large share of U.S. housing stock is vacant, which means that the house construction industry won\’t rebound until a few years later.

Business Investment

\”Net\” business investment is the amount of investment after depreciation has been subtracted out: that is, it is the amount added to the capital stock after replacing what has worn out. This is a modest bright spot for the U.S. economy, having already turned up, with CBO expecting that it will continue to rise back toward historical averages.

My standard line about the U.S. economy, as we all buckle our seat belts for the election next fall, is that whoever is elected president in November 2012 is like to be regarded as an economic saviour by the end of his first or second year of office. But a lot of the eventual turnaround won\’t have much to do with whatever policies are enacted between now and then; it will just be that the economy will have finally managed to work through most of the backlog of problems from the Great Recession.

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Unrequited Economic Optimism from the Congressional Budget Office?

The Congressional Budget Office has just published its August 2011 \”The Budget and Economic Outlook: An Update.\” Although the language of the report is concise and unemotional, many elements of the report seem to me to carry a message that the worst of our economic travails are over. However, the report also points out that its economic forecasting and analysis was completed in early July, and the economy has had some worse-than-expected news since then. Here, I\’ll start with optimism, and then finish with the more grim recent economic news.

What about housing prices?
The CBO believes that the bursting bubble of housing prices has just about run its course. This figure shows two housing price series: Federal Housing Finance Agency and the Standard & Poor\’s/Case-Shiller index. As CBO explains: \”The FHFA index covers only homes financed using mortgages that have been purchased or securitized by Fannie Mae or Freddie Mac. TheS&P/Case-Shiller index also includes sales financed with mortgages that do not conform to the size or credit criteria for purchase by Fannie Mae or Freddie Mac.\”  But the CBO is predicting that for the country as a whole, housing prices are soon going to start rising again.

What about employment?
The good news here is that the bad news is diminishing. The first figure shows the ratio of unemployed people to job openings. After the 2001 recession, the ratio of unemployed to job openings rose to almost 3:1, before falling back to 1.5:1 in about 2007. Then during the recession, the ratio took off and reached almost 7:1, before now falling to about 4.5:1. The second figure shows net job gains in recent months, which aren\’t large, but are better than a sharp stick in the eye. The third figure shows that the unemployment rate peaked at 10.1% in November 2009, but was down to 9.1% by July 2011. The CBO projections are for the unemployment rate to fall modestly to 8.5% by fourth quarter 2012, and then to fall more rapidly.

What about business investment?
Much of business investment just replaces worn-out capital. Net investment takes total investment and subtracts out the depreciation of existing capital, so that it is only looking at the addition to the capital stock. During the recession, many firms were postponing this new investment, but the CBO predicts that a bounceback is near.

What about real GDP?
I quote: \”For the 2013–2016 period, CBO projects that real GDP will grow by an average of 3.6 percent a year, considerably faster than potential output. That growth will bring the economy to a high rate of resource use (that is, completely close the gap between the economy’s actual and
potential output) by 2017.\” As with the unemployment rate, the forecast here is for modestly good news in 2012, followed by much better news in 2013 and after.

Is all this too optimistic?
The CBO makes a point of emphasizing that its economic forecasts were completed in early July. Since then, the European debt crisis has exploded, the federal government seemed unable to grapple seriously with debt issues and raising the debt ceiling, the stock market fell, economic statistics were released suggesting that the recession was deeper than previously believed, and more. Some of the figures above have little break in the line between present data and the forecast: the forecasts are based on the earlier uncorrected data, which after revision was worse than previously known.

At least for me, it\’s a natural reaction to look at these CBO forecasts that economic turnaround and catch-up are around the corner and roll my eyes in disbelief. Pessimism seems so worldly-wise; optimism seems so naive. But if the CBO is correct, whoever is elected president in 2012 is going to look like a miracle worker for the economy–mainly because by 2013 the U.S. economy will finally be escaping the sluggishness of the Long Slump and experiencing a robust economic recovery. 

conversableeconomist

Feeling Dumped by the Economy

Here are the opening paragraphs of article I wrote for the Opinion section of the Minneapolis Star Tribune on Sunday, August 14. The complete article is at the link, and also below the fold:

\”Not that many years ago, a lot of middle-class Americans felt as if they had built a close and personal relationship with Mr. or Ms. Economy (depending on your gender preference).

The rules of the relationship were clear: Get skills and training, and after spending young adulthood sampling jobs, buckle down to a long-term career choice. Borrow heavily to buy a house early in life, and then benefit from rising house prices. Save for the long term by putting money in the stock market.

Do these things, the understanding was, and the Economy would reciprocate — with rising income, reasonable job security and a comfortable retirement.

Of course, no long-term relationship is perfect. The Economy might occasionally lash out: perhaps with a dot-com boom, followed by a stock market crash, a recession and higher unemployment. Many of us misbehaved in this relationship, too. Sometimes we ran bloated credit cards bills and didn\’t save the way we should have. Yet even in the hard times, this relationship was supposed to be long-term.

But in this grim and prolonged aftermath of the Great Recession of 2007-2009 — some economists are calling it the Long Slump — millions of Americans are feeling that they have been dumped by the economy.\”

The economy is like a bad marriage
  • Article by: TIMOTHY TAYLOR

Not that many years ago, a lot of middle-class Americans felt as if they had built a close and personal relationship with Mr. or Ms. Economy (depending on your gender preference).

The rules of the relationship were clear: Get skills and training, and after spending young adulthood sampling jobs, buckle down to a long-term career choice. Borrow heavily to buy a house early in life, and then benefit from rising house prices. Save for the long term by putting money in the stock market. Do these things, the understanding was, and the Economy would reciprocate — with rising income, reasonable job security and a comfortable retirement.

Of course, no long-term relationship is perfect. The Economy might occasionally lash out: perhaps with a dot-com boom, followed by a stock market crash, a recession and higher unemployment. Many of us misbehaved in this relationship, too. Sometimes we ran bloated credit cards bills and didn\’t save the way we should have.

Yet even in the hard times, this relationship was supposed to be long-term. But in this grim and prolonged aftermath of the Great Recession of 2007-2009 — some economists are calling it the Long Slump — millions of Americans are feeling that they have been dumped by the economy.

A national CNBC survey in late June found that 63 percent of Americans are pessimistic about both the current and future state of the economy and its future, while only 6 percent are optimistic about both. The stock market swoon of that began in late July, fueled by grim economic signs and the floundering attempts of our political system to head off a national debt crisis, have further shaken many Americans\’ confidence in their long-term prospects.

Getting dumped — whether by the Economy or an actual person — brings a sad parade of disappointed expectations. After it has happened, it doesn\’t mend a broken heart when you recognize that you never should have believed some of the promises you thought you heard.

As housing prices skyrocketed in the mid-2000s, rising by more than 10 percent per year for several years, no one actually promised the trend would last forever. Still, it has been stunning to watch as the total value of real estate owned by U.S. households dropped by $6.3 trillion over the last five years — from $22.7 trillion in 2006 to $16.4 trillion by the end of 2010, according to Federal Reserve data. Even worse, back in 2006, 56 percent of the value of real estate was owners\’ equity; by the end of 2010, only 39 percent was owner\’s equity.

No one actually promised that unemployment would stay low forever. But the spikes in the unemployment rate from recessions had been falling, from 10 percent in the recession of 1982, to not quite 8 percent after the recession of 1991, to 6.3 percent after the recession of 2001. This time, unemployment went over 8 percent in February 2009 and probably won\’t get back below that level until 2012. In 2010, 43 percent of the unemployed had been without jobs for more than 26 weeks — by far the highest level since the Great Depression.

Those who trusted their long-term retirement savings to the stock market have been running in mud. The Standard and Poor\’s 500 index, for example, was 1,427 in 2000 but recently has been hovering around 1,200. All the economic news sounds grim. Gas prices, though moderating lately, recently flirted with $4 per gallon. Food prices are up: A ton of hard red winter wheat was selling for $182 in May 2010 and $354 in May 2011.

Since early 2009, the Federal Reserve created money to buy $1.1 trillion in U.S. Treasury securities and another $900 billion in mortgage-backed securities, presumably because it was concerned that no one else was going to buy them. Many pension funds don\’t have enough money to cover the promises they have made; neither do Social Security or Medicare.

After being dumped, mood swings follow. This relationship is actually a love/hate triangle — us, the Economy and Government. For some, Economy is the deceiver who trifled with our affections and betrayed us, and Government is the new love. Others see Government as the troublemaker, and dear old Economy as a victim like the rest of us.

But we have met the Economy, and the Government, and it\’s all us. We all need this three-way relationship to work.

In the short term, the economy is struggling because too many households, companies and financial institutions borrowed far too much, and it takes years for an economy to work through the aftermath of a severe financial crisis. Forecasters like the Congressional Budget Office predict that unemployment rates won\’t fall back to the 5 percent range until 2016.

In the long term, the formula for economic growth is straightforward: It\’s an economy that invests in human capital, physical capital and innovation — and which does so in the context of a decentralized, market-oriented environment that provides incentives and rewards for these activities. The U.S. economy faces severe challenges in all of these areas.

We aren\’t improving the skills of workers. A review of the education statistics by Nobel laureate economist James Heckman found that U.S. high school graduation rates peaked at about 80 percent in the late 1960s and have declined 4 to 5 percentage points since then. Too many undergraduate and graduate students are running up enormous debts without the career prospects to justify it. High unemployment means that many workers aren\’t building skills.

We aren\’t saving enough. The personal savings rate was about 10 percent of income in the 1970s and into the early 1980s, but over the last decade, despite a recent upward blip, it\’s typically been less than 5 percent of income. Meanwhile, Congressional Budget Office projections show total federal debt on a path to exceed 180 percent of GDP by 2035. That won\’t happen, because wary investors will stop buying government bonds before that level is reached.

Thus, when America\’s private sector firms look for financial capital to invest in plant and equipment, it\’s harder to find. With low private saving and high public borrowing, the U.S. economy is relying heavily on inflows of foreign financial capital, which won\’t continue forever. America\’s technological advantage remains substantial, but expertise of all kinds is going global.

In the end, economic growth can\’t be legislated or dictated; if it could be, the world would be a much richer place. A wise economist named Arnold Harberger once gave a speech asking whether economic growth was more like yeast or mushrooms. He answered \”mushrooms.\” Harberger wrote: \”[Y]east causes bread to expand very evenly, like a balloon being filled with air, while mushrooms have the habit of popping up, almost overnight, in a fashion that is not easy to predict.\”

Thus, the most important advice to the economically lovelorn is to work hard on fundamentals — build education and skills, get our personal and government finances in order, focus on knowledge and innovation — and then get out of the way and give those economic mushrooms a chance to sprout. As the quintessential noneconomist Kahlil Gibran famously wrote: \”If you love somebody, let them go …\”

It\’s hard to watch an intimate partner like Economy going through such dreadful times. I feel especially for those near or just entering retirement, whose houses and retirement accounts are worth so much less than they\’d expected, and for young people trying to start their careers in such a dismal labor market.

But with Economy, a true breakup is unthinkable. There\’s no realistic alternative to working patiently on the relationship.

Timothy Taylor is managing editor of the Journal of Economic Perspectives, based at Macalester College in St. Paul. He blogs at conversableeconomist.blogspot.com.

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The IMF on the U.S. Economy #2: This Recovery in Historical Context

In a previous  post, I passed along some of the comments that the IMF had to make about U.S. fiscal policy and how and when to reduce budget deficits in the annual IMF report on the U.S. economy.  Here, I\’ll look at an intriguing comparison that the IMF offers between the aftermath of the Great Recession and the previous nine U.S. business cycles. In particular, there is a considerable disjunction in the current recovery between a lot of the output and employment statistics, which look quite bad, and the health of the business and financial sector, which looks quite good.

In the table that follows, the last ten U.S. business cycles in reverse chronological order, with the most recent at the top, are the rows. The columns offer a list of various economic factors. Instead of a bunch of numbers, the statistics were ranked for each of the 10 recoveries, and then portrayed in this way: dark green means the strongest two recoveries in this category; light green means the 3rd and 4th strongest recoveries in this category; white means the 5th and 6th strongest recoveries; light red means the 7th and 8red strongest recoveries out of these ten; and dark red means the weakest two recoveries in each category.

By far the most striking pattern in the table is that the current recovery has a lot of red shading on the left, but a lot of green shading on the right. That is, the current recovery looks pretty bad compared with its predecessors on GDP, consumption, personal income, jobs, and unemployment. But it looks pretty good compared with its predecessors on financial and nonfinancial corporate profits, manufacturing orders, stock prices, and the health of banks. How can these factors be reconciled?

Part of the answer lies in the good picture for U.S exports, which are helping to drive manufacturing orders, production of equipment and software, and nonfinancial corporate profits. Part of the answer must be that after several years of making sure that the financial sector has easy access to cheap credit, banks are much better off than a few years ago.

But the disjunction remains. Firms have profits, but haven\’t yet started hiring. Banks and other financial institutions have become  much healthier, but in many areas haven\’t significantly boosted their lending. It\’s as if many U.S. financial and nonfinancial companies are all holding their breath, waiting for some high-pitched dog whistle that only they can hear before hiring and lending picks up.