Three Reasons Why the Economy is Mending, Despite the Rise in Unemployment
May 25, 2010
Approximately two weeks ago, the U.S. Bureau of Labor Statistics (BLS) released its Employment Situation report for the month of April. Most economists and investors reacted favorably to the employment numbers for April, despite the fact that the unemployment rate rose from 9.7% in March to 9.9% for April. In this Weekly Market Update, we’ll point out three reasons why the experts found the report encouraging.
Reason #1: Growth in Labor Productivity Foreshadows New Hiring
When a recession hits, one of the first things employers do is cut back on employment and payroll. This was especially true in the recent recession. And when the first signs of recovery emerge, hiring often lags increases in demand, meaning that the growth in labor productivity soars well beyond what is sustainable long-term. Once this growth in labor productivity growth shows a persistent upward trend, employers typically begin the re-hiring process.
In the chart below, we’ve plotted the annualized quarterly growth in labor productivity (real output per hour) between the first quarter 2005 and first quarter this year for all business enterprises (see bars on chart). This time frame covers three distinct periods:
· A period prior to the Great Recession from the first quarter 2005 to third quarter 2007
· The period of the Great Recession estimated to have lasted from the fourth quarter of 2007 to first quarter of 2009
· A period of recovery estimated to have begun in the second quarter of 2009
Growth in labor productivity prior to the Great Recession was typical of its long-term average during growth phases for the economy—approximately 1-2% annually. Beginning around the start of the Great Recession (fourth quarter 2007), the chart shows how labor productivity actually jumped to approximately 3% for a few quarters as employers aggressively cut payrolls due to slumping orders and sales. However, since the beginning in the second quarter of 2009, growth in labor productivity has demonstrated a persistent and increasing growth trend. In the first quarter of this year, it reached a 7% on an annualized basis.
Confirming this trend is the line in the chart below which plots quarterly changes in hours per week worked by nonfarm payroll employees. After languishing in a zero to negative growth range since the first quarter of 2007, it has suddenly shifted to positive growth for the past two quarters. This sudden jump in hours per week accompanied by a strong and persistent growth trend in labor productivity foreshadows the next step most businesses will begin to take: adding to their workforces.
Source U.S. Department of Labor, Bureau of Labor Statistics
Notes: (1) Change in Business Sector Productivity (bars) equals the percentage change from the corresponding quarter of the previous year in total output per business hour.
(2) Change in Hours per Week Worked (line) equals the annualized quarterly percentage change in average hours per week worked for the business sector.
Reason #2: The Economy Is Adding Jobs
If anyone needs further proof that rising demand and unsustainable growth in labor productivity will lead to new hiring, all they need to do is examine the chart below. It plots the monthly change in nonfarm payroll employment (both hourly and salaried) from September 2007 (three months prior to the official start of the Great Recession) to April of this year. Visually, the chart tells a story of our painful descent and slow recovery from what many have called the worst recession on record since the end of World War II.
Source: U.S. Department of Labor, Bureau of Labor Statistics
With the exception of the two (left and right) edges for this plot, the economy shed jobs, first at an accelerating pace up through the first quarter of last year, then at a decelerating pace through January of this year. It was during this latter period that the best news we could point to regarding an anticipated recovery was that the rate of job losses was slowing dramatically.
However, beginning in January, we’ve finally moved back into positive territory for the monthly change in nonfarm payroll employment, and the four-month trend has been persistent and improving. In April, 290,000 new jobs were added. While about 60,000 were government jobs—and many temporary jobs related to the current U.S. census—that doesn’t diminish the fact that the private sector added 230,000 jobs, its best performance since March 2006.
Reason #3: The Civilian Labor Force Is Growing Again
A final reason for optimism regarding the U.S. economy is somewhat counterintuitive—and also why the unemployment rate increased in April to 9.9% despite the positive signs many experts found in the latest Employment Situation report. After a dramatic decline in 2009 of nearly 1.5 million people, the civilian labor force has resumed growing in the four months since January of this year—and at a remarkable rate of about as much as it shrunk for all of 2009. The chart below plots changes in the size of the civilian labor force since 2001.
Source: U.S. Department of Labor, Bureau of Labor Statistics
One would expect the civilian labor force to grow fairly steadily in a country like the U.S. with an expanding population. However, that isn’t always the case given the definition the BLS uses. It defines the civilian labor force as non-military, non-institutionalized adults over the age of 16 who are either employed or unemployed but actively seeking employment and available for work. What occurred in 2009 was that a large number of unemployed people simply stopped (actively) looking for work: The job market was that bad. In doing so, they removed themselves from what the Department of Labor defines as the civilian labor force.
While this shift out of the workforce could not be directly measured by the unemployment rate which peaked at 10.1% last October, it could be seen in an alternative measure of underemployment the BLS monitors. This includes the unemployed, discouraged people who have given up looking for employment and those working part-time simply because they could not find full-time work. This statistic peaked at 17.4% of the labor force in October of last year. Last month, it had declined to 17.1%.
The rapid growth of re-entry into the civilian labor force is a positive sign: People are feeling more optimistic regarding the market for jobs and employment. As a result, despite the economy being in a recovery/growth mode and adding jobs, for some time period these positive developments may be overshadowed by the growth in people returning to the civilian labor force—meaning we could continue to see official unemployment inch higher (as it did in April) despite an improving economy overall.
Summary
The April Employment Situation report provided some solid encouraging signs for the outlook on jobs. However, there are still a lot of unknowns that could upset the economic applecart as we move ahead. One example is the continued economic concerns about the creditworthiness of some governments in Europe. Nonetheless, despite the headline-grabbing news that unemployment had risen to 9.9% in April, there are at least three reasons why the economy appears to be on the mend and improving after the recent Great Recession.
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