By Steven K. Beckner

(MNI) – New York Federal Reserve Bank economists Monday launched a
series of blog posts on prospects for the labor market in light of what
they call the “surprising” drop in unemployment in a climate of modest
economic growth.

The announcement came as Fed Chairman Ben Bernanke earlier Monday
repeated his warning that recent declines in unemployment and increased
non-farm payroll gains may not be sustained without faster economic
growth.

Bernanke based his concern on the so-called Okun’s Law, which
basically holds that unemployment cannot persistently decline unless the
economy grows faster than its potential.

Most Fed officials estimate the economy’s potential at about 2.25%.
By contrast, real GDP grew less than 2% last year on average. Yet the
unemployment rate dropped from 9.1% last August to 8.3% in February.

“This decline, the largest six-month drop in the unemployment rate
since 1984, has surprised many economic forecasters,” note New York Fed
economists Jonathan McCarthy and Simon Potter.

“The decline is even more surprising because recent real GDP growth
appears to have been around trend at best, whereas in early 1984, growth
was more than 7%,” they write.

McCarthy and Potter write that over the next five business days
economists posting on the New York Fed’s “Liberty Street Economics” blog
“will discuss prospects for the U.S. labor market given this
surprisingly quick decline in the unemployment rate.”

McCarthy and Potter note that the employment-to-population ratio is
“more closely related to overall economic growth relative to trend than
is the payroll employment change” and suggest that its behavior also
seems at odds with past performance.

“For example, consistent with recent GDP growth being around trend,
the employment-to-population ratio has risen modestly over the past six
months,” they write. “In contrast, in the early 1984 episode, the
employment-to-population ratio increased much more robustly as the
unemployment rate declined, thus providing considerable impetus to
growth.”

“The employment-to-population ratio displays a classic V-shape
recession and recovery pattern in the 1970s and 1980s,” they write. “In
the recession and recovery of the early 1990s, however, the
employment-to-population ratio instead displays a U shape, only
returning to its pre-recession level three years after the peak in the
unemployment rate.”

“In the recession and recovery of the early 2000s, neither the
participation rate nor the employment-to-population ratio returns to its
previous level, so we see an incomplete U-shape pattern,” they continue.

“In the most recent cycle, the employment-to-population ratio
traces out an L shape, but the unemployment rate falls because the
participation rate declines substantially (a much more gradual decline
was expected by many given the aging of the baby boomers),” they go on.

“(I)n other words, a larger share of the population is out of the
labor force rather than participating and being unemployed,” they add.

McCarthy and Potter said that the next five posts in the series
will address the following questions:

* “How tightly linked to GDP growth is further improvement in the
unemployment rate?

* “What do recent labor market flows — especially flows into
employment from unemployment — tell us about recent labor market
dynamics? How important is the flow rate from nonparticipation in the
labor force to unemployment?

* Are patterns of labor market flows in earlier business cycle
expansions relevant in projecting flows in the current labor market? In
particular, is this expansion different because of high structural
unemployment, especially because of the depressed construction industry,
and/or changes in the labor market behavior of women?

* “If this expansion shows labor market flow patterns similar to
those in previous expansions, how low could the unemployment rate go?
Will a low unemployment rate necessarily imply that the
employment-to-population ratio is close to its pre-recession level?”

** MNI Washington Bureau: 202-371-2121 **

[TOPICS: M$U$$$,MMUFE$,MGU$$$,MFU$$$,M$$BR$]