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A Case Study The April Unemployment Rate Date Of Announcement May 2, 2003 Date Of Next Announcement June 6, 2003 Announcement The unemployment rate for the month of April was 6.0 percent, an increase from the 5.8 percent in March. Total employment fell by 48,000 in April. The original press release is available at: http://www.bls.gov/news.release/empsit.toc.htm. Teachers' Notes Material in italics in this case does not appear in the student version. Each case describes the most current data and trends and expands expectations of student understanding. In this case, the relation among employment, wages, and inflation is introduced, along with definitions of frictional, structural, and cyclical unemployment. Definition Of The Unemployment Rate The unemployment rate is the percentage of the U.S. labor force that is unemployed. It is calculated by dividing the number of unemployed individuals by the sum of the number of people unemployed and the number of people employed. The number of people unemployed and the number of people employed is the number of individuals in the labor force. An individual is counted as unemployed if the individual is over the age of 16 and is actively looking for a job, but cannot find one. Students, those individuals who choose to not work, and retirees are therefore not counted in the unemployment rate. Table 1 1 Relevance Of Unemployment Announcements The monthly unemployment announcements receive headline treatment almost every month. Changes are significant indicators of national economic conditions and have relevance to every local community as unemployment has significant costs to the individuals who are unemployed and to the entire community and the U.S. economy. Those costs are explored in this case study. Changes in levels of employment are also included in the announcements and often receive less attention. However, the employment data are equally, perhaps even more, important indicators of the direction of the U.S. economy. Recent announcements have received particular attention as employment continues to fall and unemployment has increased. Discussion in the press will focus on whether the U.S. economy continues in a very slow growth pattern and whether or not something should be done by the federal government or Federal Reserve. Goals Of The Unemployment Case Study The purpose of this case study is to report the unemployment and employment data, to provide interpretations of the significance of the changes in conditions, and to discuss a number of related economic concepts. The case study includes additional data on the distribution of unemployment, definitions of unemployment and the costs of unemployment. The causes of unemployment are presented along with discussion of possible alternative policies. The case ends with exercises for students and activities that teachers can use in classrooms. The case offers an opportunity to enhance our understanding of the relevance of the announcements and the causes and consequences of one of the more important challenges economic policymakers face. Data Trends The unemployment rate in April (6.0 percent) increased from the previous month’s rate of 5.8 percent. Since November 2001, the unemployment rate has ranged from 5.6 to 6.0 percent. Since the previous recession in 1990-1991, unemployment has declined and employment has increased. In 1999 and 2000, annual growth in employment was 2.8 million people, with approximately 155,000 more people employed each month. That trend added employment of over 15 million people during the last decade. Figure 1 2 At the end of 2000, unemployment equaled 4.0 percent and just two years ago, unemployment was at 4.5 percent, approximately one and a half percent less than the current peak. Total nonfarm payroll employment fell by 48,000 in April to 130.3 million, seasonally adjusted. The largest job decline in April occurred in manufacturing, with a relatively small decline in retail trade employment. Construction, services, and government employment all increased slightly. Over the past 2 years, government employment has trended upward, while private sector employment trended downward. Recently, budget problems have lowered the rate of job growth in state and local government. In March for example, government employment fell by 40,000. (For more details, visit ftp://146.142.4.23/pub/news.release/empsit.txt) Figure 2 Importance Of The Changes In newspapers and magazines and on television news, much has been written and said about the slowing growth in the U.S. economy and most recently rising unemployment. The references are to the slowing growth in consumer spending, falling investment spending, and resulting cutbacks in production and employment. The increase in the unemployment rate from 4.0 percent to the current 6.0 percent throughout 2001 and 2002, as well as the decrease in the number of people employed are the results of those changes in spending. Employment reached a peak in March 2001. We have lost 2,100,000 jobs since then. Distribution Of Unemployment Unemployment varies significantly among groups of individuals and parts of the country. Table two shows the unemployment rates for a number of groups of individuals, with unemployment rates ranging from 5.1 to 18.0 percent. Table 2 In Table 2, compare the unemployment rate for teenagers to the unemployment rate for adults. Why are these rates different? There are a number of explanations for the unemployment rate differentials between teenagers and adults. Many jobs require a degree of education, skill, and experience that teenagers lack. Education and experience measure the 3 amount of what economists call human capital. Most adults possess more human capital than teenagers because they have attended college and professional schools, have been trained in a particular field, and have job experience. The degree of specialization and increased knowledge in a field, not to mention an understanding of the demands of many workplaces, will tend to make an adult worker more productive than a teenager. When an employer is hiring workers, the employer most often attempts to hire the most productive candidate, which is often the more educated and more skilled worker. Therefore, adults are preferentially hired over teenagers, an event that leads to adults having a lower unemployment rate than teenagers. The Costs Of Unemployment There are significant personal costs to unemployment. Unemployed workers often do not have the income to support themselves or their families. The stress of being unemployed is reflected through increases in alcohol and drug abuse, marital problems, and criminal activity among those who are unemployed. State and federal governments reduce the personal financial cost of being unemployed through the unemployment compensation provided to many unemployed workers. Government spending is funded, in the largest part, from tax revenues. Therefore, unemployment compensation spreads out the cost of being unemployed among taxpayers, instead of having the entire burden fall on the unemployed worker. Increases in unemployment also mean that the economy is wasting an important scarce resource – labor. Real GDP is less than it otherwise could be and that additional output is lost forever. If more individuals had been employed, production of goods and services would have been higher. Employment A second important part of each month’s unemployment announcement is the report of the number of individuals employed. Unemployment and unemployment rates receive much of the press attention and rightfully so. But employment and a loss or gain in jobs are also essential indicators of progress in the economy. The unemployment and employment even show different trends in some cases. For example, in some months, a falling unemployment rate was accompanied by a slight fall in employment. How can the number of individuals employed fall and the unemployment rate fall at the same time? This must mean that the number of individuals unemployed fell also. Most likely, what has happened is that some unemployed individuals became discouraged and are no longer looking for work. Many of those individuals may have simply given up on finding a job in the near future. If people lose their jobs and leave the labor force in sufficient numbers, they also are not counted as unemployed. If both events happen, the unemployment rate can fall at the same time the number of individuals with jobs actually decreases. 4 In many of recent months the labor force has actually declined as some of the newly unemployed dropped out of the labor force and many who would normally enter the labor force have not. The unemployment data and the employment data are actually derived from two different surveys. It is possible for some inconsistencies to arise from time to time. Figure 3 shows that growth in employment slowed in 2000 and stopped in March of 2001. Employment actually decreased in two months in 2000, all but two of the months of 2001, all but five in 2002, and all but one in 2003. As growth in spending has slowed and actually decreased in the first three quarters of 2001, businesses reduced their labor forces.. (See the most recent GDP case study.) A sustained fall in employment is one of the measures economists use when determining the existence of a recession and indeed reached a peak just before the beginning of the current recession. Figure 3 Employment, Wages And Inflation In April 2003, average hourly earnings for private sector increased 2 cents $15.11. However, average weekly earnings decreased by 0.7 percent in April to $513.74 as weekly hours fell. To a worker, wages represent income and a quantity of goods and services that can be purchased as a result of an hour’s labor. To employers, wages represent the cost of an input. In addition to wages an employer usually has additional costs of labor such as supplements, benefits and insurance plans. If companies were expanding the number of workers, the pool of available workers becomes smaller and unemployment decreases. Competition among companies forces wages up as companies offer higher wages in order to attract workers to their firm. These increased wages are an increased cost of production and if these costs are passed on to the consumer in the form of higher retail prices, they represent inflationary pressures in the economy. When the economy enters an economic slowdown, companies cut back on production and on the number of people employed. As workers are laid off, the pool of available workers increases. When unemployment increases, the upward pressure on wages and the price level are reduced. Economists, journalists, and the staff of the Federal Reserve often refer to the Non-Accelerating Inflation Rate of Unemployment (NAIRU). While there are some technical and potentially significantly differences, other terms like full employment, high employment, and the natural level of unemployment are used almost interchangeably to refer to the same relative economic conditions. The amount of unemployment at the NAIRU level is difficult to quantify, primarily because the rate changes and we do not know its level until the economy is experiencing inflationary pressures. Therefore, the NAIRU level is better thought of as actually a range of unemployment levels at which the price 5 level remains stable. Above and below this range, the economy will experience acceleration and deceleration of prices changes. Types of Unemployment There are three types of unemployment, each of which describes the particular circumstances of the individual and their employment situation. Frictional unemployment is temporary unemployment arising from the normal job search process. Frictional unemployment helps the economy function more efficiently as it simply refers to those people who are seeking better or more convenient jobs and will always exist in any economy. Structural unemployment is the result of changes in the economy caused by technological progress and shifts in the demand for goods and services. Structural changes eliminate some jobs in certain sectors of the economy and create new jobs in faster growing areas. Persons who are structurally unemployed do not have marketable job skills and may face prolonged periods of unemployment, as they must often be retrained or relocate in order to find employment. Cyclical unemployment is unemployment caused by a drop in economic activity. This type of unemployment can hit many different industries and is caused by a general downturn in the business cycle. At the NAIRU level of unemployment discussed above, the only unemployment that exists is due to friction in labor markets and structural changes in the economy. Case Study Discussion Questions 1. What are the key parts of the unemployment announcement? 2. What are the relevant economic concepts? 3. What does this mean for workers? Sample Answers To Case Study Questions 1. 1. The unemployment rate increased to 6.0%. Employment decreased once again this month. Hourly wages increased slightly this month. Weekly wages decreased slightly. 2. Rate of unemployment and the change in labor force. 3. Hourly earnings increased slightly. Given that the labor force is growing more slowly than the population, some individuals are likely discouraged and have dropped out of the labor force. 6 Interactive Questions 1. If 100,000 individuals lose their jobs in a month and all of them drop out of the labor force, what happens to the unemployment rate? 2. If productivity (output per worker) increases by three percent in a year, real GDP rises by two percent, and the labor force increases by one percent, what happens to unemployment? 3. What is the most important cost of unemployment? 4. Why are changes in levels of employment just as important as changes in unemployment? Answers to interactive questions. 1. The unemployment rate rises. But be careful. You may have selected the correct answer for an incorrect reason. The actual number of unemployed stays the same. The labor force (the employed part) declines. Thus the unemployment rate increases even though the number of individuals counted as unemployed did not. 2. Unemployment increases by approximately two percent. To some extent this is currently happening. As the labor force grows through population growth, real GDP has to go if new workers are to find jobs. In this case, fewer workers are actually needed as spending is growing more slowly than productivity. One percent fewer workers are needed to produce the new level of real GDP (two percent – three percent). Plus an additional one percent of the labor force enters. Thus, unemployment increases by approximately two percent. 3. There is not necessarily a correct answer here. Obviously if it is you or a member of your family who is unemployed, the cost is great to you. Some of that cost is borne by unemployment compensation. But even if unemployment does not directly affect you, our economy is losing output that we could have had and thus we are not as well-off as we could possible be. 4. Growth in employment is one sign that businesses are expanding production and sales. In addition, as the population grows, it is likely the labor force will also grow. Without an increase in employment that equals the growth in the labor force, unemployment will eventually increase. Describe the differences among unemployment rates for high school dropouts and college graduates, whites and minorities, and adults over 25 and teenagers. Othe r Ques tions abou t Unemployment for Classroom investigation (Based on the Bureau of Labor Statistics April report) 7 The overall unemployment rate provides only an average rate. There are significant differences in unemployment rates among different groups. For example, the demographics of the unemployment rate reveal that ranges by educational attainment, from a low of 3.1 for college graduates to a high of 8.2 for workers who have not completed high school. (See the original Department of Labor announcement tables.) The unemployment rate is lower for whites than minority groups and lower for people over the age of 25 than it is for teenagers (table 2). How long does unemployment last for typical unemployed individuals? The mean duration of unemployment is 19.6 weeks. The median duration is 10.2 weeks. A sizable number of unemployed workers who are unemployed for over 15 weeks account for this difference between the mean and the median. (Teachers should note that this is an opportune time to discuss the significance of using the mean and median as measures of an average.) Both the mean and the median duration have been increasing. Thirty-two percent of April’s unemployed individuals were unemployed for five weeks or less; 30 percent were unemployed for 5 to 14 weeks; and 38 percent were unemployed for 15 weeks or more. Twenty-two percent (included in the last group) were even unemployed for more than half of a year. Why did individuals become unemployed during the month? Forty-two percent of the unemployed workers were permanently laid off; 13 percent were temporally laid off. Twenty-nine percent were coming back into the labor force after a period of not looking for jobs and not having a job. Individuals leaving jobs accounted for nine percent of the unemployed and seven percent were new entrants. The number of individuals voluntarily leaving jobs has decreased as persons have become more concerned about the difficulty of finding new positions. The number of individuals permanently and temporally laid off has increased. 8 Classroom Discussion Activity Go to the BLS website and check the Local Area Unemployment Statistics for your city and state (www.bls.gov/news.release/metro.t01.htm). 1. Is unemployment in your area higher, lower, or roughly the same as the national average? 2. What factors contribute to your area’s unemployment rate? Which industries have expanded? Which industries have contracted? 3. Will the recent changes affect you? Relevant National Economic Standards The relevant national economic standards are numbers 18, 19, and 20. 18. A nation's overall levels of income, employment, and prices are determined by the interaction of spending and production decisions made by all households, firms, government agencies, and others in the economy. Students will be able to use this knowledge to interpret media reports about current economic conditions and explain how these conditions can influence decisions made by consumers, producers, and government policy makers. 19. Unemployment imposes costs on individuals and nations. Unexpected inflation imposes costs on many people and benefits some others because it arbitrarily redistributes purchasing power. Inflation can reduce the rate of growth of national living standards because individuals and organizations use resources to protect themselves against the uncertainty of future prices. Students will be able to use this knowledge to make informed decisions by anticipating the consequences of inflation and unemployment. 20. Federal government budgetary policy and the Federal Reserve System's monetary policy influence the overall levels of employment, output, and prices. Students will be able to use this knowledge to anticipate the impact of federal government and Federal Reserve System macroeconomic policy decisions on themselves and others. Sources Of Additional Activities 9 Advanced Placement Economics: Macroeconomics. (National Council on Economic Education) Activity 13. Types of unemployment. (Also see activities 21 and 22. Full Employment in a Capitalist Economy.) Advanced Placement Economics: Microeconomics (National Council on Economic Education) Unit Two: The Nature and Function of Markets Economics USA: A Resource Guide for Teachers Lesson 12: Monetary Policy: How Well Does It Work? Lesson 13: Stabilization Policy: Are We Still in Control? Focus on Economics: High School Economics (National Council on Economic Education) Lesson 2. Broad Social Goals of an Economy Lesson 18. Economics Ups and Downs Focus on Economics: Civics and Government (National Council on Economic Education) Lesson 11. What can a Government Do About Unemployment? Handbook of Economic Lessons (California Council on Economic Education) Lesson 5. Unemployment in the United States: How is it Measured? High School Economics Courses: Teaching Strategies Lesson 2: Different Means of Organizing an Economy Lesson 15: Economic Goals All are available in Virtual Economics, An Interactive Center for Economic Education (National Council on Economic Education) or directly through the National Council on Economic Education. Authors: Stephen Buckles Erin Kiehna Bharath Subramanian Vanderbilt University 10