How many people should be working in America?

Quite a few commentators have suggested that the labor force participation rate is a much
better indicator of the health of the U.S. labor market than is the unemployment rate. I feel
that quite a few commentators have this wrong.

When

Brad DeLong
,

Paul Krugman
,

Angry Bear
,

Economist’s View
,

William Polley
,

VodkaPundit
,

The Big Picture
,

Lifelike Pundits
, and

Reading the World

(among others) all tell me to look at

this policy brief
by Katharine Bradbury, then, ok, I’ll have a look at it.

The issue people are talking about is the divergent impressions one would draw about the
current U.S. labor market depending on which statistic you look at. The unemployment rate,
which reflects the number of people who say they’re looking for work but are unable to find it,
suggests that the U.S. economy is currently in significantly better shape than it’s typically
been over the last 30 years. The labor force participation rate, which is the number of people
who are either working or looking for work as a fraction of the population, suggests that far
fewer people are working, relative to the size of the potential labor force, than has typically
been the case over the last 30 years. The difference between the two measures has to do with
people who aren’t working and who further described themselves to the BLS as not actively
looking for a job. Large numbers of such people explain both a low unemployment rate and a low
labor force participation rate.

What caught everybody’s attention in
Bradbury’s paper were the following conclusions:

Measured relative to the business cycle peak in March 2001, labor force participation rates
almost four years later have not recovered as much as usual, and the discrepancies are large….
Depending on the scenario, the current labor force shortfall ranges from 1.6 million to 5.1
million men and women. With 7.9 million people currently unemployed, the addition of these
hypothetical participants would raise the unemployment rate by 1 to 3-plus percentage points.
Current low rates of labor market participation thus potentially represent considerable slack in
the U.S. labor market.

part_men.gif

What caught my attention in this paper is something that also struck href="http://www.williampolley.com/blog/archives/2005/07/index.html#000363">William Polley
and Tim
Duy
, though it does not seem to have been mentioned by any of the dozens of others who’ve
reported on this analysis. This is a feature that’s extremely glaring if you look, for example,
at the labor force participation rate for men aged 45-54. This statistic has exhibited a very
reliable downward trend over the last half century, falling from 96% in 1948 to 88% today. It
would be perfectly outlandish for anybody to look at that trend and deduce from it that the U.S.
labor market has been steadily worsening over the last 50 years. In fact, the exact opposite
would be the correct interpretation– it is precisely because of rising American affluence over
these decades that those individuals in this demographic group who are least suited for working
are no longer forced to do so. As a specific example of how and why that has occurred, a study
by David Autor and Mark
Duggan
noted that between 1984 and 2001, the share of non-elderly Americans receiving Social
Security Disability Insurance income rose by 60%, which these researchers concluded led to a
doubling in the labor force exit propensity of displaced high school dropouts.

part_teen.gif

Next consider another demographic group, those aged 16-19, whose labor force participation
rate displays very different properties. Whereas the trend is the striking feature for mature
men’s participation rate, the cycle is the dominant attribute for teens. In each recession one
sees the teen participation rate fall and rise back up as the economy recovers. These cyclical
declines surely do indicate a weak labor market for potential job-seekers in this group. On the
other hand, there just as clearly are some longer run trends apparent in teenage labor force
participation as well, with this statistic gradually climbing up until 1978 and gradually
falling since. The primary explanation for the fall since 1978 appears to be href="http://www.bls.gov/opub/ils/pdf/opbils49.pdf">
increased high school and college enrollment rates and attention to school work. Again, it
would be a rather surprising view of the world to suggest that paying more attention to school
is a bad thing for teenagers to do.

part_women.gif

As yet a third illustration of the variety and subtlety in the trends in labor force
participation among different groups, consider the numbers for women aged 35-44. This statistic
rose steadily through the 1960′s, accelerated sharply in the mid-1970′s, and reached its peak
value in 1996. Surely the increases in the 1960′s and 1970′s represented the results of
profound changes in social values and preferences over that period. Given that the plateau was
reached prior to the economic boom of the 1990′s, I’m certainly inclined to
attribute the failure of this statistic to rise above 80% also to social factors. Not all women
in this age group want to work, and the number who do is subject to change over time as people’s
attitudes change.

It seems very hard to quarrel with the statement that any given month’s value for the labor
force participation represents the confluence of different factors, some resulting from trends
that are in all probability quite benign, and some representing cyclical economic swings.
Whenever somebody looks at such a statistic and claims to have inferred what it is saying about
purely cyclical forces, they must have used some method for distinguishing between these two
kinds of forces.

In my opinion, no such reliable method exists. One idea you might try would be to fit a
linear time trend to the data, calling any deviation from that trend line the “cyclical” factor.
That might not work too badly for the mature men’s participation figures. But it would seem a
gross distortion of what’s going on for either of the other two series I’ve plotted, giving you
a radically different answer depending on where you supposed the trend began and ended. There’s
no good reason to assume that the factors that are contributing to the trend are in fact
evolving in a linear, purely deterministic way that simply began at some arbitrary date.

Any satisfactory statistical treatment of the question would regard this as a
signal-extraction problem, where one would try to decompose the change in any given month’s
labor participation figure into “trend” and “cycle.” There are certainly time-series methods
that have been proposed for doing that sort of thing. But they rely in a very fundamental way
on knowing the statistical structure of what constitutes a trend and what constitutes a cycle.
I just don’t see what we could claim to base such assumptions on in this context.

The method that Bradbury used in order to arrive at her lowest estimate, 1.6 million, of the
number of missing jobs, was to look at the change between the current participation rate for a
given demographic group and its value when the recession started in March 2001, and compare
this change with the corresponding 4-year change following each of the recessions in 1960, 1969,
1973, 1981, and 1990. This essentially amounts to assuming that the slope of a linear trend fit
from 1960-1994 could be extrapolated to 2001-2005 to identify the magnitude that we should
normally be expecting for that figure. In the case of mature men, that’s maybe not such a bad
assumption, and in fact Bradbury finds that for men aged 45-54, the participation rate in 2005
is actually higher than one might have predicted based on the previous 5 downturns. On the
other hand, for women aged 35-44, this amounts to assuming that the increase in women’s labor
force participation rates between 1960 and 1994 should have continued to climb upward, and,
since it has not, Bradbury finds 1.1 million “missing” jobs in this group alone.

In calling attention to this fact, I do not mean to be criticizing Bradbury’s scholarship.
My point is not that there’s a right way and a wrong way to control for trends, but rather that
there are some fundamental problems with any way you choose to do it, and any conclusions you
draw from these exercises need to be very carefully qualified. Indeed, if you read Bradbury’s
paper, you’ll see that a great deal of her paper is devoted to discussion of these very profound
challenges in distinguishing trend and cycle. My concern is more with the way that the pundits
have summarized her paper without calling attention to this very great uncertainty about drawing
strong conclusions from such numbers. href="http://economistsview.typepad.com/economistsview/2005/07/fed_watch__on_t.html">Tim Duy
did a nice job in passing along the qualifications and doubts that Bradbury herself acknowledged
about such analysis, but many of the other analysts have been bringing up her policy brief as if
it definitively resolved all questions. For example, href="http://bigpicture.typepad.com/comments/2005/07/atypical_busine.html">the Big Picture
summarizes the current status of the debate as follows:

Anyone who gets on their hind legs to declare how wonderful the economy is based
upon how low unemployment rates are outs themselves as a clueless
known-nothing.

On behalf of CKNAWWW (Clueless Know-Nothing Analysts of the World Wide Web), I’d
respectfully like to invite Big Picture to rethink that position. Or maybe even consider the
benefits of becoming a member in our elite guild.

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30 thoughts on “How many people should be working in America?

  1. simon

    Excellent post … I also applaud your inclusive nature … your invitation to the CKNAWWW club is most magnanimous

  2. pgl

    I should remind you that neither Brad DeLong nor I have been saying “look at only the labor force participation rate”. Rather – we have been articulating for a long time why we think examining the employment to population ratio may be a more reliable way of understanding the strength of the labor market. We have also been noting for a long time the fairly obvious definitional link between the employment to population ratio, the labor force participation rate, and the unemployment rate. And we have strived to understand – as best one can – whether the decline in the employment to population ratio is a decline in folks desire to work v. a discouraged worker effect. I’d encourage you to read the much longer history of what we have said, what Bill Polley has reasonably said over time, etc.

  3. touche

    The article Declining teen labor force participation that you cite was published in Sept 2002 and analyzes trends through 2000. Bradburys paper shows a few remarkable drops in labor force participation during and after the last recession (page 11) so that article is not relevant to those drops.
    Second, you mention her comment that that for men aged 45-54, the participation rate in 2005 is actually higher than one might have predicted based on the previous 5 downturns. Figure 3c shows this to be true only during the first 20 months after the business cycle peak. From 20 to 48 months there is almost no difference.
    So about all we can say is that times are tough for the youngest adults to whom, by the way, we bequest a huge national debt, and very large unfunded tax liabilities. So good luck to them.

  4. Barry Ritholtz

    My perspective is to ask how the macro data points impact longer term investments in equity and fixed income instruments.
    If you believe that the low unemployment rate signals a robust expansion, than by all means, go long equities for the next few years.
    On the other hand, if you believe (as I do) that low unemployment rates are a function of declinging labor participation rates and people leaving the labor force (NILFs), than your course is clear — prepare for a slowing economy, and commensurate underprformance from equities and overperformance from Bonds.
    As I noted in the beginning of June (http://www.smartmoney.com/theproshop/index.cfm?story=20050602) I expect the optimistic reading (such as the one on the present page) to garner much investor enthusiasm.
    Then the tide goes out, and when everyone’s naked, we can see who has the smallest (ahem) portfolio.
    Place your bets!

  5. JDH

    On that issue, Barry, I definitely share your concerns. One of my worries is the effect of the Fed’s tightening, now and future. I think you’ve made some good points on what some of the concerns about where the economy is headed should be, and I intend to highlight those in a later post this week.
    Just because the unemployment rate is low now doesn’t mean there’s nothing to worry about in terms of what comes next.

  6. chris

    James,
    Is there a lower bound on the number of “missing” jobs that you are comfortable with?
    Also, regarding the Fed’s tightening, I wish someone would explain the “neutral rate”. How will we know when we hit it? Is it even possible for us to hit it perfectly? Maybe all we ever know is which side of the neutral rate we’re on? Is it just theoretical? Or so fleeting we never witness it? When people differ on where the Fed should stop, can I infer that they differ on the neutral rate?

  7. John

    In an environment of personal income tax cuts and a growing economy we would expect a rise in labour force participation rate. More people would find it attractive to work than other activities.
    In addition, we would expect a rise in real wages (more demand for labour).
    Neither is happening. As far as I know college enrolment (stripping out demographic effects) is not rising: tuition is rising much faster than inflation. So there is a real question what is going on in the economy.
    It may simply be these are lagged phenomenon and will in time start to rise, but my guess is the data is showing a fair degree of involuntary unemployment: either part time working or not working at all. This is holding down wage growth. It is something De Long has pointed out.
    This is consistent with a lot of anecdotal evidence I have heard amongst middle class people.
    Unemployment statistics depend a lot on eligibility for benefits. As people are unemployed for long enough, they lose eligibility for benefits and cease to be ‘unemployed’ in a statistical sense.

  8. New Economist

    How shaky is the US labour market?

    The short answer is: shakier than the headline job numbers suggest. Now here is the longer answer… James Hamilton at EconBrowser asks if the new employment figures are really that bad? The unemployment rate has reached its lowest level of the last fo…

  9. JDH

    Chris, you mean you’re not going to let me get away with just criticizing others, I actually have to put a number of my own on the table? I guess the short answer is that I believe there surely are some missing jobs, but I would have a very hard time defending any particular number that we might come up with.
    As for the neutral fed funds rate, if there was such a thing as a fixed nominal interest rate that the Fed could just park at forevever, I think we would have stumbled into that solution long ago. The problem is that the economy keeps changing, and what the Fed really has to figure out is not what’s going on right now, but rather what’s going to happen 6-24 months down the road.
    Two great questions. Wish I had better answers for each.

  10. JnWaring

    As a professor at a college to which many of our youth are flocking right now, it is my belief that James’ claiming that the lower labor force participation rate among our youth is due to the wonderful effect of these youth getting an education is complete tripe.
    Most of the students I teach would much rather have good jobs. Lacking the ability to get those, they turn to school for “something to do”, incurring huge amounts of debt, studying things that have little relevance to getting a job, and there is no evidence whatsoever from our placement people that they will have any significantly better chance of finding a good job after they graduate. (This isn’t my alma mater, Harvard, but a standard state school)
    The next mistake James makes from his ivory tower perspective is to misunderstand that the kind of jobs that are available and the actual wages and benefits they provide actually make deferral from the labor force (if mommy and daddy, or some bank or govt. credit agency will pay for it) a much more inviting option. Basically they’d rather be postponing labor force entry and hope for the best in 4,6,8 years (misunderstanding the mountains of debt they can accumulate) than to go into the wasteland of jobs available now. (Would you like fries with that?) These kids aren’t dumb; they can see very clearly what their options are right now, and they’re not good.
    So for James to claim our youth have some new rediscovered yearning for education and becoming improved citizens or some nonsense, and thereby it is to be welcomed as some society-bettering trend, is simply garbage.
    Moreover I believe it is dangerous to say that, because it will give this horrific administration yet another BS talking-point that the unsophisticated will fall for.

  11. Eric H

    Dear Dr. CKNAWWW;
    “In fact, the exact opposite would be the correct interpretation– it is precisely because of rising American affluence over these decades that those individuals in this demographic group [men 45-54] who are least suited for working are no longer forced to do so.”
    I’d like to take a contrarian view on this. Is it rising affluence? Or is it the influence of technology? Are men in that age group being replaced by technology and/or dropping out of the labor market because they can’t or don’t want to cope (as in, “can’t teach an old dog new tricks”)? On the other hand, if they are dropping out for that (or other reasons), how are they paying rent and eating? (question for me, not you) If technology is forcing them out, should the trend be accelerating (because there is a greater difference in tech in the period 1995-2005 than 1955-1965), or slowing (because grandpa owns a computer now, but didn’t in 1995) (question for both of us)?
    I’m reluctant to accept an easy explanation like rising affluence to explain why people are dropping out. Shouldn’t that trend have accelerated toward the end of the dot-com boom, and then reversed itself as the boom imploded?

  12. JnWaring

    And it’s also good to know that all those men in their 50s who are being downsized and labor-arbitraged out of their jobs and benefit packages now have much more time to spend on their yachts.

  13. Eric H

    Also, I don’t understand JnWaring’s point. When I went to college, I wanted a good job, too. I didn’t turn to school for “something to do” because I couldn’t find it, or because I was hoping the market would be better in the future. I went to college **because** I wanted a good job. I had two choices in my chosen field: spend years and years trying to learn things the hard way, or spend 4 or 5 getting an immersion education and a certificate at the end.
    I think most college students understand (at least intuitively) the superior return on time and money invested in a college education. Why don’t Harvard grads understand it?

  14. The Glittering Eye

    Catching my eye: morning A through Z

    So, is everybody on vacaction of what? Here’s what’s caught my eye this morning: How’s the Transportation Security Administration doing? Basically, lousy both from the standpoint of compliance with the law and in making us more secure. Bruce Schneier s…

  15. Anonymous

    EricH -
    Generally we Harvard grads understand it’s better to refute the actual point than insult the commentor.
    Your evasion of the point noted, I’ll make it again.
    This is -not- Harvard or Yale, a degree from which is undeniably a benefit both in terms of personal development growth as well as economic prospect.
    These are state college students, many –not all, but many– of whom would rather be in the work force right now than incurring huge debt studying things that current evidence shows will not pay a large dividend (the number of unemployed PhDs now is near an all-time high). So for disturbingly many of them, studying English Lit or Music is a way to bide time rather than add productive capacity to themselves or gain expectations of a better economic situation because of their degree.

  16. Eric H

    Hi JnWaring
    I think I did answer the point, in two ways: I said, “I went to college **because** I wanted a good job,” and “most college students understand (at least intuitively) the superior return on time and money invested in a college education.” I know of several English Lit and Music majors who are now in management; the degree allowed them to get a foot in the door without having to take classes that didn’t interest them and without having to spend years working their way up from custodian. Moreover, many students have probably figured out that being in college is an easy way to network and learn while Mom, Dad, and Uncle Sam foot the bill for food and housing. Even if they are getting a loan rather than a grant, many of them may have figured out that it is relatively easy to get out of that debt by hook or by crook (as opposed to, say, a mortgage).
    If I understand your argument, you are saying that kids can’t find a job they like, so they’ve decided to go into an irrationally expensive holding pattern. I doubt they are irrational, so we are left with a possibility that they are over-discounting the cost of their loans. Maybe, but you are basing this on a claim that they would rather be in the workforce, now, and that they won’t be able to afford the loans, later.
    As to their preference to be in the workforce now – on what is this based, their stated claims, or your observations? If their claims, I’d suggest that their revealed preference shows otherwise. All we have left, then, is your judgement that they would rather be working now, and that they won’t be able to afford the loans, later. Why should we trust your judgement on these issues?
    They don’t all have to get PhDs and become unemployed – some could go outside academia to get jobs. Also, there is a big difference to saying that their investment “will not pay a large dividend” and saying that it is not their best option. If their time in the workforce will pay an even lower dividend over time, then school may be a better investment of their time and money. Which is exactly why most people do and should go to college.
    PS What are words/phrases like “tripe”, “ivory tower perspective”, “the unsophisticated”, and the entire 4th and 5th paragraphs in your first post if they are not “insult[ing] the commentator”? I took my tone from you, and will cease to do so.

  17. Lord

    If your definition of rising affluence is being disabled rather than working on a poorer job, then this must be the greatest age of affluence ever known. Now we only have to cut the pay on all the other jobs and all go on disability for the true age of splendor to arrive.

  18. gary lammert

    The world macroeconomy finds itself in a situation in which there is no (good) way out. A terminal and final perfect fractal sequence has a high probability of occurrence this trading week confined within the limits of a 22/54/54 maximum weekly growth fractal sequence. Many of the world’s equity indices’ fractal patterns are following the identical or very slightly different variations of the Wilshire 5000. They are synchronized for a final lower order daily fractal top on or near Thursday 28 July 2005 to complete a final x/2.5x/2x daily fractal growth sequence. This daily sequence is contained within the potential terminal 103 daily growth fractal sequence of the last 50 week fractal sequence beginning in August 2004. The ideal final daily growth fractal pattern of 12/30/24 would represent the third and terminal portion of a 51- 52/129-130/ x to 2x or 64 final day sequence.
    The Chinese have recently discovered that having US dollars does not necessarily assure purchasing power and acquisition of US assets and oil companies even at a premium over other bids. They now understand the utility of currency diversification. Global imbalances will self correct and self correct in an optimal fractal manner. There is no (good) way out. Gary Lammert / ”

  19. JDH

    Thank you for your comment, Gary, but it was a bit too long and a bit off-topic. I’ve edited it down, and hope that people who may be interested in learning more about your analysis will follow the link to your webpage.

  20. Lifelike Pundits

    Interesting Post on Labor Force Participation

    About a week ago I put up a post about a Paul Krugman column on how the unemployment rate is higher than generally reported. A couple days ago I noticed that we had gotten a trackback ping on that post….

  21. fred c. dobbs

    A lot of the discussion on this issues tends to get wrapped up in politics. Here goes another one.
    My Republican friends tend to say: “What me worry? 5% unemployment is great!!!”
    To which I say: Remember when Bush said we must cut taxes because high marginal tax rates were discouraging workers from joining the workforce?
    Those tax cuts, apparently, didn’t work. Labor participation is down!!! Hmmmm… Maybe marginal tax rates really aren’t the main motivation for whether people work or not!
    Back to the drawing board, Mr. Hubbard!!!

  22. jult52

    Fred D: “Maybe marginal tax rates really aren’t the main motivation for whether people work or not!” The argument about high marginal tax rates is how much they discourage highly compensated individuals from contributing their high value-added services to the economy. Not about workers with low marginal productivity.

  23. Jim Glass

    It doesn’t make much sense to say a recovery or the labor market in it is weak unless one compares it to some credible, non-subjective standard. This is why business cycles are compared peak to peak, trough to trough, and so on.
    Subjective impressions aren’t convincing. I mean, I surely think I work too many hours for too little pay, but you may disagree.
    So I checked Brad DeLong’s “Five Indicators That Say The Job Market Is Really Weak” for June, 2005, against the figures for the same number of months after the ’91 recession, the same distance into the recovery that lead to the “miracle economy”.
    The results for Prof DeLong’s five indicators were:
    * Unemployment lower today.
    * Long-term unemployment (15+ weeks) much lower today, 30% lower. There was more long-term unemployment at this point in the last recovery even in absolute terms, +600,000, even though there were 17 million fewer people in the work force then.
    * Earnings have risen higher today. While they are up only slightly since the pre-recession high, they were *down* during the prior recovery, and stayed down for a full *seven years*.
    (That’s a solid 3 to 0 for the current recovery right there.)
    * Labor force participation rate is a push.
    * Payroll employment growth was stronger in the previous recovery. (Although the significance of this is dubious since even DeLong says payrolls were 2 million over the sustainable level at the start of the current recovery due to the bubble.)
    That’s 3.5 to 1.5, this market stronger, by my tally.
    So if the current labor market recovery is weak then the one in the prior recovery must be recalled with real ill feeling as it was even weaker, though I don’t see anyone recalling it that way, as it ended up in a boom and all.
    (DeLong certainly isn’t saying “this job market recovery is almost as bad as the one during the Clinton years”.)
    Anyhow, the numbers brings to mind a couple of questions that might be addressed by those who think there are millions of discouraged workers today who are pushing down the unemployment and labor market participation rates.
    1) Compared to this point in the prior recovery, with the unemployment lower today, long-term unemployment much lower, and pay having risen faster, *why* would so many more people be discouraged about finding a job?
    What’s discouraging them?
    2) If there really are so many more discouraged workers today, why have they stopped describing themselves as such to the BLS?
    “Unemployed and discouraged workers as a percent of the labor force and discouraged workers”
    Prior recovery: 6.1%
    This recovery: 5.3%

  24. chris

    “So if the current labor market recovery is weak then the one in the prior recovery must be recalled with real ill feeling as it was even weaker, though I don’t see anyone recalling it that way, as it ended up in a boom and all.”
    I was just expecting a little more at this point in the recovery … in light of the unprecedented monetary accomodation and low long rates.

  25. fred c. dobbs

    Jult52: But the highly compensated workers with high marginal productivity were supposed to hire the rest of us, if we would only cut their taxes enough!!!!
    I don’t blame Bush for this trend: It’s obviously a structural change in the US economy that has been coming for a long time. Presidents can have only a modest impact on the structure of the economy.
    But Bush promised that if we cut taxes then employment would grow.
    You can’t pursue a supply-side policy and then deny that it ever intended to have any supply-side effects.

  26. cm

    John: “Unemployment statistics depend a lot on eligibility for benefits. As people are unemployed for long enough, they lose eligibility for benefits and cease to be ‘unemployed’ in a statistical sense.” –
    While there is an interpretation to this that is not patently wrong, I have to point out that people (tend to) cease to be in the Unemployed category not because they don’t receive benefits, but because benefits termination causes them to drop vain job-search efforts, which they usually have to keep up to not get their benefits cut while they still last.

  27. cm

    Regarding the 45+ men, as there is no age discrimination in this country (right?), their retiring from work or abstinence from looking for a job must obviously be voluntary.

  28. ken melvin

    Other WMD, the biggest lie being perpetrated and perpetuated about is the one about illegals only taking jobs no one else wants. Plenty of Americans want these jobs when these jobs pay a decent living wage. The next biggest lie being perpetrated and perpetuated about is the one about only 150 million, i.e., 105% of the some 142 million Americans employed, are seeking jobs. There are at least another 10 million Americans who would like a job if they could find one that paid a decent living wage. Those who perpetrate and perpetrate this last lie seem to believe that the very fact that people want a good job that pays a decent living wage will somehow cause such to miraculously appear.

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