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Taking stock of unemployment rate’s shortcomings

A marijuana industry job fair  last spring drew a crowd of prospective employees in Denver. Colorado was among 31 states that registered a drop in  unemployment in September; its rate went from 5.1 percent to 4.7 percent.
A marijuana industry job fair last spring drew a crowd of prospective employees in Denver. Colorado was among 31 states that registered a drop in unemployment in September; its rate went from 5.1 percent to 4.7 percent. (Brennan Linsley/Associated Press/file)

On Friday, the US Labor Department will report the national unemployment rate for October. Markets will move. Economists will analyze. Politicians will react.

But many analysts — including Federal Reserve policy makers — have become disenchanted with a measure they say is not describing the true state of the US labor market. The September unemployment rate, 5.9 percent, was not far from the 5- to-5.5 percent level generally considered as full employment, but not many economists — or job seekers — would describe conditions as anywhere near that robust.

The problem is the rate, as it is calculated, doesn’t capture what is often called “hidden unemployment” — people who have given up looking for jobs, or work part time because they can’t find full-time position. More than 9 million Americans still fit into these categories, about 60 percent, or 3.5 million, above prerecession levels, according to the Labor Department.

One of the lessons of the “Great Recession” and its sluggish aftermath is that the unemployment rate is not always a reliable indicator.

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Historically, it has done a pretty good job, said Jared Bernstein, a senior fellow at the Center for Budget and Policy Priorities, a Washington think tank, and former chief economic adviser to Vice President Joe Biden.

“But there are occasional periods when it doesn’t,” said Bernstein. “And we just went through one of those periods.”

Part of the problem is the last recession was so broad and deep that it created record numbers of long-term unem-ployed, and ultimately record numbers of discouraged workers giving up job searches. Fundamental changes in the US labor market also could be having an impact as more employers rely on part-time and contract workforces rather than full-time employees with full benefits.

The adequacy of the unemployment rate has become a particular issue as the Federal Reserve considers when and how fast to raise its benchmark short-term interest rate, which has stayed near zero since 2008.

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Some policy makers, such as Richard Fisher, president of the Federal Reserve Bank of Dallas, say falling unemployment numbers and other indicators suggest the Fed should act sooner rather than later — or risk igniting inflation.

Others, including Federal Reserve chairwoman Janet Yellen and Eric Rosengren, president of the Federal Reserve Bank of Boston, argue that the unemployment rate understates the weakness of the labor market, and the Fed should move cautiously in withdrawing stimulus from the economy.

So, what is the unemployment rate supposed to measure?

The basic idea is to figure out whether people who want jobs can get them. Sometimes, when the economy is weak, even eager, well-qualified people can’t get work, and you expect a high unemployment rate. Other times, as we saw in the late 1990s, jobs are plentiful, workers have leverage, and the unemploy-ment rate is far lower.

What’s the problem with the unemployment rate?

Here’s one of the big limitations. Let’s say there are 100 people either working or looking for work. If 94 of those people have jobs, and six are seeking jobs, then the unemployment rate is 6 percent.

Notice that a lot hinges on people “working or looking for work.” Say you want to work, but the job market is bad and you decide to put off the search until conditions get better. You’re still unemployed, just not counted as unemployed by the government.

To return to the example, if three of those six people looking for work get discouraged and give up, the unemployment rate would fall to about 3 percent.

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Is there a better measure?

When you look beyond the unemployment rate, there’s a fair bit of evidence to suggest that the labor market isn’t actually that strong. One measure that gets cited a lot these days is called “U6,” which not only includes those working and looking for work, but also those who have given up job searches and work part time because they can’t find full-time positions.

The broader U6 rate in September was 11.8 percent, double the traditional unemployment rate.

This alternative measure also shows a much weaker recovery. The September jobless rate was 1.5 points above the prerecession low of 4.4 percent; the U6 rate was 3.8 points above its prerecession low — more than double the gap of the unemployment rate.

The employment rate

Another way to look at the labor market is to turn the unemployment rate around and concentrate on the number of people who have jobs. That’s the employment rate, also called the employment-to-population ratio. A country with 65 workers, out of a population of 100 people, would have an employment rate of 65 percent.

There’s a problem with this approach: It’s sensitive to broader demographic changes. For instance, as the population ages and baby boomers retire, the number of people with jobs is naturally decreasing. This might lower the employment rate even if the economy were improving.

Fortunately, it’s possible to correct for this by looking at prime-age workers, those between 25 and 54. In 2007, roughly 80 percent of prime-age workers had jobs. That bottomed out at around 75 percent during the worst of the downturn, but has risen to only 76.7 percent since.

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In other words, the labor market has recovered just one-third of its losses, an indication that there may be something wrong with the good-news story touted in unemployment numbers.

Wage growth

The better the job market, the more leverage workers have. If they’re unhappy with salaries, they can quit, knowing they can find new work. They might even apply for multiple jobs and force companies to compete for their services.

When workers have this kind of leverage, wages go up. So one way to assess the strength of the job market is to look at wages, and see whether they’re rising. They’re not. Wage growth has hovered around 2 percent for the last two years. Once you account for inflation, there’s virtually no increase in the earnings of private-sector employees.

Should we ignore the unemployment rate?

Economists say the labor market is a complex mechanism and it’s useful to consider a spectrum of indicators, including unemployment, underemployment, and quit rates, if you really want to assess conditions.

But if you’re going to look at just one number, look beyond the unemployment rate. When the government releases job numbers, check the employment rate or see whether wages are increasing. That will give you a fuller sense for whether people who want jobs can readily find them.


Evan Horowitz digs through data to find information that illuminates the policy issues facing Massachusetts and the US. He can be reached at evan.horowitz@globe.com. Follow him on Twitter @GlobeHorowitz.
Jay Fitzgerald can be reached at jayfitzmedia@gmail.com.

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