Does Unemployment Rate Really Improving?

The unemployment rate for the month of January has improved to 9 percent from 9.4 percent in December and a two-decade peak of 10.1 percent in October 2009. But, does the unemployment rate is really improving as the US labor force participation rate has been declining since 2000?

The labor force participation rate is the percentage of working-age persons in an economy who are either employed or are actively seeking employment. It is found by dividing the labor force by the population.

The arithmetical consequence of a subdued labor participation rate is that it requires smaller job gains to achieve the same amount of decline in the unemployment rate. Thus, the decline in the jobless rate tends to overstate the improvement in the labor market.

For instance, though the unemployment rate for January improved to 9 percent the nonfarm payroll employment changed little (+36,000), according to the latest report from the U.S. Bureau of Labor Statistics.

The labor participation rate dipped to a 26-year low in January to 64.2 percent, indicating that the job searchers simply gave up and are deemed by the labor department as no longer being part of the workforce. Only in March 1984, the rate fell to 64.1 percent. Generally, the labor force participation rate in the U.S. is usually around 67 percent to 68 percent.

The lower labor force participation rate has always been tied with demographic reasons, but the decline intensified with the Great Recession.

Market analysts expect further decrease in the labor participation rate in the coming years, as the demographic shift of the US age structure is tilting towards the elder workers.

The demographic shift of the age structure will almost surely continue to exert downward pressure on the overall labor participation rate in the next decade. We expect the overall labor force participation rate to remain subdued during the years ahead, even in the presence of a cyclical rebound in the labor force, Credit Suisse analyst Neal Soss wrote in a recent note to clients.

The consistent decline in the labor participation rate, coupled with a projected slower population growth, would lower labor supply, which is one of the important components in a nation's production process. This in turn will hurt the potential GDP growth.

The Fed also seems to share the similiar concerns about the mathematical calculation of the unemployment rate and is beginning to downplay the improvement in that statistic in its assessment of America's jobs problem.

Until we see a sustained period of stronger job creation, we cannot consider the recovery to be truly established, Federal Reserve Chairman Ben Bernanke said while addressing National Press Club on Feb.3.

Bernanke's statement assumes significance as it is the number of jobs that link to the well-being of the society rather than a calculated unemployment rate.

Soss said given his expectation of a low labor force participation rate for the years ahead, it is even more imperative to put more emphasis on the number of job gains as opposed to the improvement in the unemployment rate.

We expect the Fed to maintain its accommodative policy stance until the unemployment rate drops for a good reason: because monthly job gains move to a much higher plateau, Soss wrote.