Understanding the Unemployment Picture: ''Zero'' Unemployment and the Flow of Labor

November 20, 2011

While zero unemployment may seem like a reasonable and ethical goal, Waller says that it can't be done because the labor market is far too dynamic. The flows in the labor market are enormous in any given month, as millions of people move between employment, unemployment and nonparticipation, while tens of millions more change jobs or careers while remaining continually employed.


Christopher Waller: All right, so leading into the next question—survey. It's a simple thing. You've got a bunch of people out of work; get them jobs. Should the government use policies to drive the unemployment rate to zero? (Laughter.) Sheesh. Ooh. All right, so most of you say "disagree" or "strongly disagree." So let me give you a little background. I once heard a—when I was a professor at Indiana University, there was a very prominent speaker, a national figure, who came in during the '91-'92 recession and said, "It's a national disgrace that the unemployment rate is not zero in this country. The government should take those people and go get them jobs and drive the unemployment rate to zero."

It's a very simple, intuitive thing. Here are people that don't have jobs. Go hire them, give them jobs, and then the unemployment rate goes to zero. I showed you a chart. It was never, ever zero. Okay? So what's wrong with that kind of reasoning? And that's what I'm going to move into in this next couple of slides. The labor market is a very dynamic place. And I kind of hinted to you about that with the duration of unemployment being a third of people are only out of work five weeks or less. It's very dynamic. People are moving. Okay?

So the way to think of it is, when you look at the unemployment rate and it doesn't change, you say, "Ah, those people are out of work. Go get them jobs. It will go to zero." Doesn't work like that, okay? Here's what it is. The analogy is, you go to the river. You walk down to the Mississippi. You look at the water level, measure it. Come down a month later, measure it. Come down a month later, measure it. It's the same. But the water you saw last month is long gone, and it's been replaced by more water. And then that water's gone, and it gets replaced by more water

So the level looks like it's staying the same, but the people or the water is different every month. And that's the same with the labor market. What you are seeing with the unemployment rate is a snapshot of the labor market. Just like if you walked down to the Mississippi and you took a snapshot for the water level and came back a month later, you'd take another snapshot and say, "Water level hasn't changed." But in the meantime there's a tremendous amount of movement across these categories. Okay?

So that's the way you have to think. It's not a static, "Here's a stock of unemployed workers. Go get them a job and it goes to zero." Okay? You get those people a job and the next month more people pour in. That's the issue. So I just want to take those categories that we gave you in the definition and just kind of plot them in a very simple way. We said there's employed, there's unemployed, or there's not in the labor force, non-participant. Now every month people are moving from the unemployed ranks to the employed ranks.

Even now, people go from unemployed, they find a job, they become employed. People lose their jobs and become unemployed. People who are unemployed, at some point some people stop searching and they just say, "I'm out of the labor force." Or they say, "I'm going back to school." That's a common thing people do in recessions. They quit looking for a job and just go back to school.

The minute they go back to school, they're out of the labor force. And then a lot of—this would be like college graduates, my daughter an example. She wasn't in the labor force. Now she is, and she doesn't have a job. So she goes from this category down to this category. Okay? So there's these flows every month. Now what I'm going to do on the next slide is show you kind of the magnitudes of these flows and these categories.

And finally, you can either go from employed to out of the labor force. So if you retired from your job, you would be moving from here to here. And then a lot of people who are not in the labor force immediately go to jobs. I taught class at Notre Dame on Friday. I asked my class, "How many of you already have jobs?" Probably 3/4 of the kids held up their hand. Right now they're not in the labor force, but they will immediately go to becoming employed. Okay? So they're in that green arrow at the top.

So what I've done here is shown you a graph where these circles are the relative sizes of the stock of people in these categories on average every month. So on average there's about 122—this is from '96 to 2003. So it's a little out of date, but it gives you kind of pretty much the idea. About 122 million people were employed over that period. About 60 million people were not in the labor force. And about 6 million were unemployed.

Every month about 3 million people move from employment to not in the labor force. 3 million move from not in the labor force to employed. Every month 1.4 million people lost their jobs and became unemployed. 1.8 million found jobs. 1.4 million of the unemployed gave up and just either went back to school or dropped out. And 1.4 million non—in the labor force people came into unemployment. That's on average every month for seven years. So you have to think of the labor market as this very dynamic process. Okay?

So this is the title of David and Marcela's article, "The Moving Parts." You've got to think of the labor market that way. Okay, it's not this static thing. It's this very dynamic—people are constantly moving. Now what we want to think about is what then causes these decisions of flowing from one category to the next, as opposed to, "Do I work or not?" Okay?

Now there's demand side things. Every day firms are creating new jobs and destroying old jobs. And it's amazing how big these flows of just job creation and job destruction are. Technology comes along. Old jobs go out of business. You'd create a new job. Sometimes you just move people across the firm from one job to the next. The job's gone, they open another job. Typically, if a firm opens up a new job, it's going to post a vacancy. Right? So vacancies are the opposite side of the coin. There's unemployment, and then there's firms looking for workers, and they post vacancies.

On the supply side, workers often switch jobs. They move from one job, from one company to the next, and they're never unemployed. Those flows are enormous, the amount of people who just change jobs across companies every month. Or they just change their status because of various life events. You may decide to retire, go back to school. Somebody stays home with children. There's a lot of reasons people change their behavior.

All right. So one of the things we want to talk about are a couple of things about what's caused these flows to be potentially disruptive. So we asked a question. How important do you think the availability of unemployment benefits is in explaining current levels of unemployment? 21 percent said "very important." 26 percent said "important." So over half of you said this has to be an important factor. And only about 1/4 of you said it wasn't important at all. Now it turns out that it is important, and I'll come back to it later.

But one of the things I want to do is, I had this discussion—there's a demand side, which is the firm posting vacancies and looking for work. Then there's the supply side of people out there looking for jobs. Okay? So one of the things that economists have done is they construct something called a Beveridge Curve. And what it is is, it's the relationship between job vacancy rates and the unemployment rate. So it's kind of trying to capture both sides of those flows, the demand and the supply. Now, normally, the relationship—or almost always this curve—it's called the Beveridge Curve, and it's almost uniformly negatively sloped. Okay?

So here's the Beveridge Curve. Here's the unemployment rate. This is a measure of vacancy rates. And you can see that the thing for a seven-year period here was pretty much a negative slope. So it's kind of intuitive. When unemployment is low, labor markets are tight, firms have a hard time finding jobs, and vacancies stay open. So the vacancy rate is quite high. You go down. When unemployment tends to be higher, it's easier for a firm. We say there's a little more slack in the labor market. Firms have an easier time filling vacancies. So the vacancy rate goes down. Okay?

And that's this kind of relationship based on market tightness. Kind of is the labor market on the demand side, or is it on the supply side driving it? What you can see is, since this recession we started here in—well, since 2007 when the financial crisis really kind of started, this thing went down, down, down, down, down. Unemployment's 10 percent. Vacancy rates are very low. So, again, it's not surprising. Firms stopped looking for workers. They stopped posting vacancies. Workers can't find jobs. And the unemployment rate's high.

But what's been a little puzzling is that vacancy rates have started to come back up, and if you notice, they're not much different here than they were back here. They're right a little under 2 1/2. But the gap in unemployment is huge. So, on the one hand, you say, "Yeah, vacancies aren't great." But they weren't that great over here, but the unemployment rate was 6 percent or less. So this is what leads us to think something different, something structural, has happened in this recession. Something has happened to the way those flows work and the way that firms post vacancies versus find workers.

Now one thing that I've heard is that there are a lot of firms that are posting kind of fake vacancies. They post a vacancy. It's not that costly. But they're looking for, you know, if you're a Notre Dame football, you know, linebacker, 6'4," 250, and can run a four flat 40. They don't exist. But you put an ad out there just in case that linebacker comes by. So it's not clear how many of these vacancies are actually serious or they're this kind of, "Let's just stick something up there, and if we find that superstar that stumbles by, we'll grab them. Otherwise, forget it."

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