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Focus on Economic Data: The Unemployment Rate - February 2002

Key Economic Concepts:

• Deflation
• Economic Growth
• Economic Institutions
• Inflation
• Productivity
• Tools of the Federal Reserve

Description:

The unemployment rate for the month of February was 5.5 percent, a decrease of .1 percent from January. The number of individuals employed increased by 66,000 this month.

Announcement

The unemployment rate for the month of February was 5.5 percent, a decrease of .1 percent from January. The number of individuals employed increased by 66,000 this month.

The original press release is available at: www.bls.gov/news.release/empsit.toc.htm ^[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 are equally important indicators of the direction of the U.S. economy.

This particular announcement will receive additional attention, as it is a somewhat unexpected fall in unemployment, combined with an increase in the number of individuals employed for only the third time in the last twelve months.

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.

You may wish to use the following larger versions of the graphs and tables from this lesson for overhead projection or handouts in class:

• PowerPoint (52 KB)
• PDF (19KB)

Data Trends

The unemployment rate in February fell to 5.5 percent, for a total decrease of .3 percent from its December high of 5.8 percent following a very steady rise that began in October of 2000. Employment increased for the first time in six months, perhaps breaking a trend of declining employment that began in March of 2001 - the beginning of the current recession.

Since the previous recession in 1990-1991, unemployment had been in a steady decline and employment had increased. In 1999 and 2000, annual growth in employment was 2.8 million people, with approximately 155,000 more people employed each month. During the first quarter of 2001, employment was still growing with 220,000 more people employed each month. The trend added employment of over 15 million people during the last decade.

A little more than a year ago, unemployment hovered at a low of 3.9 percent, almost two percent less than the rate reached in December. In April 2001, the unemployment rate began to increase rapidly. Despite this month's increase in employment, employment has fallen by 1,380,000 since last April. In February, continued declines in employment were experienced by the manufacturing and transportation sectors. Employment increased in the retail trade, services, construction, and government this month, but declines in employment continued in the insurance and finance sectors.

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 the impending recovery. The references are to the slowing growth in consumer spending, falling investment spending, and resulting cutbacks in production and employment. The rapid increase in the unemployment rate from 3.9 to 5.8 over the past year, as well as the decrease in the number of people employed are the results of those changes in spending.

In May of 1999, the Federal Reserve began a policy of slowing the rate of growth in the money supply and creating increases in short-term interest rates. That restrictive monetary policy lasted through the Federal Reserve meeting on November 15, 2000. The goal was to slow the rate of growth in spending in the economy to be more in line with the growth in capacity and thereby eliminate potential inflationary pressures. During the last two quarters of 2000, the growth in real GDP began to slow, unemployment rose from October 2000 to January 2002.

The restrictive policy changed with the December 2000 Federal Reserve meeting, after which the Federal Reserve announced that current "risks are weighted mainly toward conditions that may generate economic weakness in the foreseeable future." The Federal Reserve then began to respond to slowing spending growth and the increasing potential for a recession by reducing the target federal funds rate by 475 basis points (4.75%) from January 2001 to December 2001.

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. 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.

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 4.9 to 30 percent.

Unemployment rates for states and cities are released with a greater lag than the national data. In December 2001, North Dakota (2.8%) and South Dakota (3.1%) had the lowest unemployment rates. The highest levels of unemployment were experienced in Washington (7.5%) and Oregon (8.0%).

Rates vary even more by city. College Station, TX (1.4%) and Columbia, MO (1.7%) had the lowest unemployment rates. Among the highest rates in the country are Merced, CA (15.5%), and Visalia/Tulare/ Porterville, CA (16.3%). Of the largest U.S. cities, Miami had the highest unemployment at 7.1% and Hartford, CT, Columbus, OH, Orange County, CA, and the Washington, DC area all had rates of 3.1 and 3.2 percent.

Of the nine geographical areas of the country identified by the Department of Labor, the area including Iowa, Kansas, Minnesota, Missouri, Nebraska, North Dakota, and South Dakota had the lowest unemployment rate at 4.0 percent and the region including Washington, Oregon, California, Alaska and Hawaii had the highest with 6.5 percent.

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 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 is also an essential indicator of progress in the economy.

The unemployment and employment even show different trends in some cases. For example, in January 2002, a falling unemployment rate was accompanied by a significant fall in employment. How can the number of individuals employed fall and the unemployment rate fall at the same time? The data show that while the number of individuals who were unemployed fell during January, a significant number of people left the labor force. That is they are no longer looking for jobs. 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 are not counted as unemployed. It is possible that some of those looking for jobs also give up. If both events happen, the unemployment rate can fall at the same time the number of individuals with jobs actually decreases.

Figure 3 shows that growth in employment started to slow in the middle of 2000. Employment actually decreased in two months in 2000 and in most of the months since March of 2001. As growth in spending has slowed and actually decreased in the third quarter of 2001, businesses have 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.

The unemployment rate decreased in February due to an increase in the number of persons employed combined with a decrease in the number of people unemployed. The decrease in the number of people unemployed was due to a continued increase in the number of workers leaving the labor force.

Employment, Wages and Inflation

In February 2002, average hourly earnings for private sector increased by 2 cents to $14.63. Average weekly earnings rose .1% to $498.88. During 2001, average hourly earnings rose by 4.0% and average weekly earnings rose by 2.8%. The weekly earnings rose by less than the hourly earnings, as the number of hours worked by the average worked decreased.

To a worker, wages represent a quantity of goods and services that can be purchased by an hour's labor. To employers, wages represent the cost of labor. 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 level remains stable. Above and below this range, the economy will experience acceleration and deceleration of prices changes.

Another common, sometimes confusing, term is the full-employment rate of unemployment. What that really means is that the only unemployment that exists is due to friction in labor markets and structural changes in the economy. Examples of frictional unemployment are unemployment resulting from individuals quitting jobs and looking for new ones, people getting fired and quickly finding new jobs, and students graduating and looking for jobs. It is normal in the sense that even in very good times, people will find jobs soon, and there will be a small number at any one time. There may be some individuals whose skills simply do not match any available openings and it may be a lengthy time before they are able to find positions. That is described as structural unemployment.

Case Study

1. What are the key parts of the unemployment announcement?
   
   [The unemployment rate decreased in February to 5.5%. Employment increased this month following decreases since March 2001. Hourly wages increased slightly. Although most industries showed increases in employment there was continuing falling employment in the manufacturing and transportation sectors. ]
   
2. What are the relevant economic concepts?
   
   [Rate of unemployment; growth in labor force; the NAIRU level of real GDP; and inflation.]
   
3. What does this mean for workers?
   
   [Hourly earnings increased slightly. Unemployment is still low compared to most of the 1990s, but it is has increased significantly over the last year and a half. The rate of growth in real GDP was negative in the third quarter of 2001 and only slightly positive in the fourth quarter. Employment is increasing.]
   
   What does this mean for employers?
   
   [The rate of growth in real GDP has been slowing and fell in the third quarter of the year. Employment is decreasing.]
   
4. How will the Federal Reserve decision-makers likely react?
   (See the most recent FOMC case study.)
   
   [The Federal Reserve can increase, decrease, or not change the target federal funds rate. (The federal funds rate is the interest rate banks charge one another for short-term loans of reserves. The target is the goal the Federal Reserve sets as appropriate, given its monetary policy intentions.)

   Decreasing the target federal funds rate would likely increase investment and consumption spending and eventually result in expanded employment (and increase inflationary pressures and decrease unemployment).

   Increasing the target federal funds rate would likely decrease the rate of growth in investment and consumption spending. A decrease in growth in spending would be intended to reduce rates of increases in wages and prices, slow the growth in employment, and perhaps increase unemployment.

   During 2001, the Federal Reserve has been concerned with the small increases in spending, the potential of decreases in spending, and the resulting increases in unemployment. That concern was the basis for the decreases in interest rates announced between January and December 2001. At this January's meeting, the FOMC decided to leave the target federal funds rate unchanged as it believes that it has likely provided sufficient stimulus for the economy to begin to growth once again.]

Classroom 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 ^[2] ).

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?

Other Questions about Unemployment

Links Used:

1. ^{^} "www.bls.gov/news.release/empsit.toc.htm" - (www.bls.gov)
2. ^{^} "www.bls.gov/news.release/metro.t01.htm" - (www.bls.gov)
3. ^{^ ^} "www.bls.gov/news.release/empsit.nr0.htm" - (www.bls.gov)

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