Friday, 6 September 2013

Why the Declining Unemployment Rate is Deceptive

Guest Post - Today I'll like to introduce a guest post from Daniel Noon, a Ph.D. student at UCLA, courtesy of Otavio Dalarossa, an Los Angeles investor.  He digs a bit into the true meaning of the job situation.

Reading between the lines and spotting uneasy trends

Is the job situation really recovering? The unemployment rate seems to indicate that it is, having declined from 10% to 7.6% since October of 2009. While most economists take this statistic to be a credible measure of broad economic conditions, an alternate unemployment measure shows a starkly different picture.

The employment-to-population ratio measures the number of people who have jobs relative to the number of people of eligible working age as its base. This metric, as well as the unemployment rate, are both maintained by the Bureau of Labor Statistics. The key difference between the two is that the unemployment rate uses the much more restrictive labor forceas its base. The labor force excludes those who have given up looking for employment, yet who say they "want a job now"- this results in a rosier unemployment rate figure. (Source:

The chart below compares the unemployment rate to unemployment measured by the employment-to-population ratio with data from 1948. Both unemployment metrics appear to generally move in tandem together during each job boom and bust cycle. The two metrics have been undeniably consistent with each other with respect to their movements over much of US history.

However, this does not hold true for the most recent timeframe. After the 2008 crash, the unemployment rate rose, peaked out on October of 2009 and has been on a steady decline ever since. Unemployment measured by the employment-to-population ratio similarly rose with the unemployment rate after the crash, but has remained flat during the supposed recovery instead of declining (see plot below).

Why is this happening? This can be explained by a stagnant or contracting labor force relative to the country's growing working population. The labor force, central to the unemployment rate's definition, excludes individuals who have essentially given up looking for work. In 2007, the BLS reported that 4.7 million working eligible individuals were "not in the labor force but wanted a job now." This figure has risen each year since 2007 and hit 6.6 million in 2012, a trend that contrasts a job recovery notion. These figures help explain some of the recent discrepancy between the two employment metrics. 

Those who are considered unemployed by the alternate metric are effectively categorized by BLS as "not in labor force, do not want job now." When this category was adjusted for population growth, it experienced an unprecedented surge concomitant with the onset and aftermath of the Great Recession: a rate of increase about substantially worse compared to the early 2000s when the dot-com bubble burst and 9-11 occurred (see table below).

Average Annual Growth Rate in “not in labor force, do not want job now” normalized to 1994 population of working-age individuals
While it is difficult to figure out exactly why this has happened, it’s easy to be skeptical and wonder how many do want a job and are unwilling to admit to it, or are subject to flawed survey procedures. In fact, BLS adds a footnote to some of its “not in the labor force” tabulations admitting that some individuals are not even asked if they want a job (see below). 

With the labor force as a persistent point of debate between supporters and opponents of the unemployment rate, these charts suggest that the employment-to-population ratio could function as a more honest measure of jobs in the economy. For investors seeking to look into real job figures for additional data on the economic picture, this metric may prove to be very useful.

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