WASHINGTON (MNI) – The following is the second of four sections of
the remarks of Federal Reserve Chairman Ben Bernanke prepared Monday for
the National Association of Business Economists:
In light of this historical regularity, the combination of
relatively modest GDP growth with the more substantial improvement in
the labor market over the past year is something of a puzzle. Resolving
this puzzle could give us important insight into how the economy is
likely to evolve. To illustrate the tension, consider the relationship
between the recent changes in the unemployment rate and in real GDP
relative to the predictions of Okunfs law (figure 8). As illustrated by
the position of the square labeled g2011h relative to the Okunfs law
relationship, represented by the line, the decline in the unemployment
rate over the course of 2011 was greater than would seem consistent with
GDP growth over that period. Indeed, with last yearfs real GDP growth
below 2 percent, less than what most economists would estimate to be the
U.S. economy’s potential rate of growth, one might have expected little
change in the unemployment rate last year or even a slight increase.
What is this confluence of the significant decline in the unemployment
rate and the modest recent increase in real GDP telling us about the
state of the economy, and how will the Okunfs law puzzle be resolved?
The apparent failure of Okun’s law could reflect, in part,
statistical noise. For example, it may be that future data revisions
will show that real GDP grew more quickly over the past year than
currently estimated. However, although it is certainly possible that
revised data will ultimately explain part of the puzzle, at this point
we have no specific evidence suggesting that such a revision might be in
the offing. For example, gross domestic income, an alternative measure
of economic activity constructed using source data that are mostly
different from the data used in estimating GDP, provides some check on
the information provided by the better-known GDP measure. However, gross
domestic income is currently estimated to have increased less quickly
than GDP in 2011 and so does not point to an explanation of the drop in
the unemployment rate. Another logical possibility is that the decline
in the unemployment rate could be overstating the improvement in the job
market. For example, potential workers could be giving up on looking for
work to an unusual extent. Because a person has to be either working or
looking for work to be counted as part of the labor force, an increase
in the number of people too discouraged to continue their search for
work would reduce the unemployment rate, all else being equal–but not
for a positive reason. A story centered on potential workers dropping
out of the labor force might seem in line with the low level of the
labor force participation rate (figure 9). But other data cast doubt on
that idea. For example, a broad measure of labor underutilization that
includes people only marginally attached to the labor force has declined
about in line with the unemployment rate since late 2010 (figure 10).1
On balance, an assessment of a broad range of indicators suggests that a
substantial portion of the decline in the unemployment rate does reflect
genuine improvement in labor market conditions.
Yet another interpretation of the recent improvement is that it
represents a catchup from outsized job losses during and just after the
recession. In 2008 and 2009, the decline in payrolls and the associated
jump in unemployment were extraordinary. In particular, using the
Okunfs law metric, the run-up in the unemployment rate in 2009 appears
gtoo largeh relative even to the substantial decline in real GDP that
occurred. This point can be seen by returning to figure 8, which shows
the Okunfs law relationship. The open triangle labeled g2009h in the
upper left of the figure shows an increase in the unemployment rate in
that year well above the one implied by the contraction in real GDP and
Okunfs law. In other words, employers reduced their workforces at an
unusually rapid rate near the business cycle trough–perhaps because
they feared an even more severe contraction to come or, with credit
availability sharply curtailed, they were trying to conserve available
cash.
The diagram suggests that what we may be seeing now is the flip
side of the feardriven layoffs that occurred during the worst part of
the recession, as firms have become sufficiently confident to move their
workforces into closer alignment with the expected demand for their
products. Such a dynamic would explain the position of the square
labeled g2011h in that figure being far below the line representing
Okunfs law. Of course, Okunfs law is a noisy relationship, and we
donft really know if the better-thanexpected labor market performance
of 2011 has largely offset the worse-than-expected performance in 2009.
However, to the extent that the decline in the unemployment rate since
last summer has brought unemployment back more into line with the level
of aggregate demand, then further significant improvements in
unemployment will likely require faster economic growth than we
experienced during the past year. It will be especially important to
evaluate incoming information to assess whether the recovery is picking
up as improvements in the labor market feed through to consumer and
business confidence; or, conversely, whether the headwinds that have
impeded the recovery to date continue to restrain the pace at which the
labor market and economic activity normalize.
The Challenge of Long-term Unemployment
Discussions of the labor market at this juncture necessarily have a
gglass halfempty or half-fullh tone. Recent improvements are
encouraging, but, as I have noted, in an absolute sense, the job market
is still far from normal by many measures, and millions of families
continue to suffer the day-to-day hardships associated with not being
able to find suitable employment. Although most spells of unemployment
are disruptive or costly, the persistently high rate of long-term
unemployment we have seen over the past three years or so is especially
concerning. In this episode, both the median and average durations of
unemployment have reached levels far outside the range of experience
since World War II (figure 11). And the share of unemployment that
represents spells lasting more than six months has been higher than 40
percent since December 2009 (figure 12). By way of comparison, the share
of unemployment that was long term in nature never exceeded 25 percent
or so in the severe 1981-82 recession.
Those who have experienced unemployment know the burdens that it
creates, and a growing academic literature documents some dimensions of
those burdens. For example, research has shown that workers who lose
previously stable jobs experience sharp declines in earnings that may
last for many years, even after they find new work.2 Surveys indicate
that more than one-half of the households experiencing long unemployment
spells since the onset of the recent recession withdrew money from
savings and retirement accounts to cover expenses, one-half borrowed
money from family and friends, and one-third struggled to meet housing
expenses.3 Unemployment also takes a toll on peoplefs health and may
have long-term consequences for the families of the unemployed as well.
For example, studies suggest that unemployed people suffer from a higher
incidence of stress]related health problems such as depression, stroke,
and heart disease, and they may have a lower life expectancy.4 The
children of the unemployed achieve less in school and appear to have
reduced long-term earnings prospects.5
In addition, unemployment — especially long-term
unemployment–imposes important economic costs on everyone, not just the
unemployed themselves. Elevated unemployment strains public finances
because of both lost tax revenue and the payment of increased
unemployment benefits and other income support to affected families.
People unemployed for a long time have historically found jobs less
easily than those experiencing shorter spells of unemployment, perhaps
because their skills erode, they lose relationships within the
workforce, or they acquire a stigma that deters firms from hiring them.
Loss of skills and lower rates of employment reduce the economyfs
overall productive capacity over the longer term. In the shorter term,
because the process of matching the long-term unemployed to jobs
typically takes more time, the currently high level of long-term
unemployment might in itself be a reason that further progress in
reducing the unemployment rate, and thus in achieving a more complete
recovery, could be slow.6
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** Market News International Washington Bureau: 202-371-2121 **
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