The long term employment data tells a chilling tale of a decade already lost in the USA. There is a fair argument that the economy has never recovered from the bust of the dot.com bubble – which challenges my prior conclusion that equity-busts do not hurt like debt-busts.
The story begins with the well known aggregate private sector hours worked index. This is as good a measure of the US ‘output gap’ as any.
Up close, this looks to be a decent enough recovery (well, at least as good as the prior recovery).
Zooming out, however, reveals the full extent of the damage – and the lack of recovery. I have added a trend line to show that there was a reliable growth path prior to the dot.com crash.
To better show the output gap, i’ve taken the difference between the pre-2001 trend line and the actual data. This measure suggests the output gap reached ~17% of potential in Q3’09, and recovered to ~15% of potential in Q1’12 — and has since slouched back to ~16% of potential.
This just seemed too bad to be real – however it does not seem to be down to demographics. The above chart shows a normalised ratio of hours worked to the population. As you can see, the index of hours worked per person fell to a little under 1 standard deviation below average during the most recent recession, recovered to around -0.6 sigma by Q1’12, and is now around -0.65 sigma below average.
Given Women’s lib and improved medicine, I’d expect an uptrend in this ratio over time – indeed, these were the explanations posited to 2000 when hours worked per head were substantially outside of the 1964–1994 range.
When you consider how much larger the ‘eligible’ population has become (due to the above-mentioned factors), it’s shocking to see the employment to population ratio around the high end of the range traced in the boomer generation – when married women often did not work and mothers seldom did (and when children were more common).
The failure of aggregate hours worked and the employment to population ratio to recover suggests that the US has been in a long slump that began at the end of 2000.
It is only in the unemployment duration data that I find evidence for the conclusion that equity-busts do not hurt as much as debt-busts.
The plight of the unemployed this recession has been unusually difficult. The median duration of unemployment is presently ~18 weeks, which is down from a peak of ~25 weeks in mid 2010, but is up from ~17 weeks the prior month. The old range was 5 weeks to 10 weeks.
Taken together, this data leads me to two conclusions:
1/ that the dot.com bust did more damage that i had realised (especially if one considers that the housing boom was partly a policy response to the bust); and
2/ that those who argue that the current labour market slack is structural are drawing a pretty long bow.
The social and medical changes over the prior four decades will have pushed up potential labour force attachment. We should have seen an uptrend in labour force attachment as a result. That participation in employment has declined so far so fast strongly suggests that there is a problem on the demand side – and that there has been a problem for some time.
Yes it has been as terrible as it has been unnecessary. But it was not so much the dot come bust – but a legacy of the Clinton Surpluses which pushed the private sector into deficit as per the sectorial balances. The hangover of increasing household debt was mitigated by the stimulus relating to the Bush tax cuts and the Obama stimulus post GFC – neither of which were large enough to re-equitise the private sector.
This is no different to many other times the US has run a surplus, which was soon followed by recessions / depressions / panics. From 1817 to 1821 the US national debt fell by 29 percent; from 1823 to 1836 it was eliminated (Jackson’s efforts); from 1852 to 1857 it fell by 59 percent, from 1867 to 1873 by 27 percent, from 1880 to 1893 by more than 50 percent, and from 1920 to 1930 by about a third. Of course, the last time the US ran a budget surplus was during the Clinton years.
The United States has also experienced six periods of depression. The depressions began in 1819, 1837, 1857, 1873, 1893, and 1929. (Do you see any pattern? Take a look at the dates listed above.) Source: http://pragcap.com/surpluses-debt-and-depressions
Why hasn’t Switzerland been in a depression?
As per the sectorial balances;
Private savings + Government Surplus + Current account deficit = 0
Switzerland runs a very large current account surplus.
This means the last identity of the equation above is negative, allowing the government and Private sector to net save (ie: government can run a surplus, while the private sector can net save too).
Switzerland has problems though – very high mortgage debt to GDP and zero interet rates. They will have problems in the not too distant future.
I find this sort of fixed price logic very uncomfortable.
What i can make sense of is that if one of the parts of the identity moves quickly, another part must accept a swing (for it must always balance). Perhaps recessions are common as what is really needed are large relative price shifts – and these are most common in recessions?
A major reason for the low annual hours worked in Europe is a relatively high amount of paid annual leave. Fixed employment comes with four to six weeks of holiday as standard.
I might be a bit thick. But which data points do you take to support the cyclical explanation?
I thought I posted a comment on the previous labour market post but something screwed up. I can’t see any compelling reason to dismiss Kurtz’ structural explanation. His data points are strong and suggest that job openings arent improving the attachment rate which could mean that people aren’t sufficiently mobile or skilled or whatever to fill those openings.
None of which is to suggest I don’t think there are obvious cyclical impediments to stronger employment numbers. I think Sumner’s “75% demand, 75% structural” argument has some merit. To some extent demand side weakness is exacerbating structural deficiencies. Your data seems to support this: employment has been bad since the dot com bust but strong growth until the great recession masked this weakness. The US needs some serious micro reform. However I am not optimistic. Sumner seems to be optimistic that addressing ad deficiencies will spur structural reforms. Your data suggests otherwise: then recovery up to the Great Recession didn’t result in much structural reform and so the labour market is suffering as a result.
I guess i leave put a logical step – i do not see the sudden change in the economy that explains why 5ppts of the previously employable population are now no longer good for work. Social and technological factors suggest the opposite.
That, plus the very weak wages data, suggests that demand is the problem — who would have thought i would be the one to say that?
Very interesting data and thoughts. Manny, I assume you mean Sumner said 25% structural. I can’t remember his argument, but I assume it was something like structural reform is easier to do if NGDP is growing and people are in jobs. Sumner has also pointed out that the minimum wage was increased by 40% just before the Great Recession, which may be contributing to current problems given the low NGDP environment. Maybe that’s part of the source of his 25% structural?
Anyway, If you are right Ricardo that the problem is mainly cyclical, this suggests that policy has been too tight for many years – perhaps even before 2008, and maybe even since the early 2000s. It suggests that the problem of people confusing a low FF rate with an easy stance of monetary policy has been causing problems for years. What else would explain the sustained deviation in hours worked from the trend line? Supply-side problems (excluding labour market rigidities of course) could mean lower productivity, but why would they result in slower growth in hours worked? Both Sumner and the ECRI have noted that US recoveries have been getting weaker since the early 1980s, which suggests that given downward nominal wage rigidity, we may need to accept a higher rate of inflation to sustain low unemployment.
Ricardo – I see your point now. My point is that pre-existing structural weakness got unmasked due to the massive AD shortfall that started mid 2008. AS and AD problems are entangled if you like. Yes I am somewhat surprised at the how strongly you are making an AD argument but I agree that there is strong data to justify it. I hope that you appreciate how unusual it is for me to give the AS argument room as well. It seems that there is evidence that the problem is more than just (a significant collapse in) AD.
Rajat – wasn’t a typo. Heres the link: http://www.themoneyillusion.com/?p=9652
OYM – i was just thinking about wages inflation and remembered the maxim “never reason from a price change”. Yes lack of wage inflation be due to AD shortfall.
But it could also be due to a AS overhang. I think it’s both – they are entangled.
My comment got swallowed up again – maybe i cant comment on my iPad. Anywhere, I’ll try to reproduce. I get you argument now and tend to agree. Such rapid deterioration is unlikely to be AS – or at least not purely AS. I think Kurtz’s analysis is solid. But I also see solid AD shortfall explanations. My synthesis is that the massive AD shortfall beginning in mid 2008 in short period of time unmasked significant AS weaknesses that you see – even in the data that you presented above.
I wouldn’t expect you to be making such a strong AD shortfall argument. But you see it in the data and its good to be able to change your mind on things. I feel like we’ve kind of pivoted. I am now making a claim that significant structural problems (accumulating since perhaps 2000) are exacerbating AD problems. I still think AD problems require significant policy responses (monetary mainly – Section 1 of Woodford’s paper is excellent on comms and how level target helps at zero bound). But I think at some point the fed gov needs to address structural muck that is messing with the American economic machine.
No typo. See this link: http://www.themoneyillusion.com/?p=9652
I am less optimistic than Sumner about the willingness or competency of gov to address structural issues when AD shortfall is addressed. They had their opportunity in early 00s and didn’t take it – they seem to have made it worse. And they had a Republican in power until late 2007.
Your wage inflation comment reminded me of the maxim: “never reason from a price change”. Why? Price changes can be caused by supply or demand. In this case, subdued wage inflation could be caused by significant AD shortfall. It could also be caused by large overhang of idle labour that is unsuitable in some way. Maybe the cost of training idle (unsuitable) labour is small compared to potential wage claims. Maybe employed labour are worried of making wage claims that will get them unemployed (ave length of unemployment is high). But from my perspective, its both AD and AS issues causing unemployment to remain high.
WordPress ate your comments, but i won them back. Thanks Manny.
Well it is more subtle than that even – the housing bubble suggests policy was easy in at least one regard. Looks to me like a severe capital allocation problem.
You might have seen this, but Sumner has a post on this precise issue.
Yes RA is correct. Wages would be increasing if unemployment was structural.
Structural unemployment can eventuate if one has a prolonged period of economic weakness.
Thus the Austerity types are actually arguing against themselves.
I find this sort of fixed price logic very uncomfortable
I do not think I have used any “fixed price” logic. You asked about Switzerland, and I used very standard economics (sectorial balances) to explain the consistency of my comments relating to the US. At no point to I suggest they are fixed. But the fact of the matter is, the US runs a CAD and a budget surplus under Clinton – it is therefore necessary for the domestic private sector to run a deficit (borrowings). Private debt has been the millstone orrounf the neck of the US economy ever since. There a thousands of charts on this matter.
That is why the US employment numbers are so bad for so long. All very easily fixed though just using some common sense & political spine. Unfortunately, as the local goverment attempts to “deliver a surplus” the same fate awaits all Australians.
Well, if prices are flexible, a government surplus does not mean private debt – it could mean more net exports. We all agree that the identity must balance, but i think you have to fix prices to make it causative in the way you are using it.
Markets are rarely efficient. Yes, prices are always flexible but is does not follow they move to accomodate each sectors goals.
Case in point the USA.
The US (and australia) have CAD because foreigners desire to net save in USD (and AUD). They do this because of political / economic stability, rule of law, and regulated financial systems (as well as returns). Once the US has a Capital account surplus, it necesarily has a CAD under a floating FX scheme.
When Clinton ran a suplus, the private sector could no longer net save because the USD stayed too strong because of foreign demand for US financial assets.
It would be a lovely world if prices moved they way we wanted – but they rarely do,
So do I have to have “fixed prices” to make my case? No.
Informative analysis yet again. Thanks RA.
Thanks for the comments and nice feedback :)
FWIW returning to the Paul Krugman article referred to recently, PK considers explanations of US unemployment in terms of structural fail. He also noted that whilst unemployment was high just about everywhere, it was significantly higher in states that had ‘ a huge housing bubble that burst’.
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