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ECONOMICS: US PERSPECTIVES—JANUARY 14, 2011

Sharp Decline in US Unemployment Rate:


Inflection Point or Misleading Signal?
Joseph G. Carson
US Economist and Director—Global Economic Research, (212) 969 6886

December’s unemployment data were widely dismissed as a sign Display 1


Exceptional Drop in US Jobless Rate
of improvement because part of the drop was driven by a reduc-
Change in the Civilian Unemployment Rate
tion in the workforce. But large declines in the jobless rate are Percentage Points

rare and the similarity of the recent data to other comparable 0.6

periods suggests that the US labor market is beginning to heal. 0.4

When the unemployment rate fell sharply the recent improvements. History shows 0.2

in December, many analysts dismissed the that large swings in the unemployment
0.0
decline as a statistical quirk, even though it rate are often significant indicators of
was one of the biggest improvements ever change. Over the past 40 years, the (0.2)
recorded. The civilian unemployment rate unemployment rate has only risen or fallen
fell 0.4 percentage point (Display 1) to by at least 0.4 point in 22 individual (0.4)
9.4%, according to the Bureau of Labor months. Of those, 17 months were cases 2009 2010

Statistics, with half the drop attributed to of rising unemployment, while only
As of December 2010
more people working. But the remainder five—including December—were declines. Source: Bureau of Labor Statistics and Haver Analytics
was the result of a decline in the labor
force, which some observers interpreted as Good Intelligence in Rate Change
a sign that an increasing number of people During each month when the unemploy- prompted by a very large expansion of the
had given up looking for work. ment rate rose by more than 0.4 point, labor force, which at first led us to
the increase sent a clear signal that either downplay the deterioration in the jobless
It’s true that the composition of the fall in an economic recession had already begun figures. In fact, even though the sharp
the unemployment rate was split between or that labor market weakness would gain in the unemployment rate was
employment gains and labor force soon trigger incremental job losses and dominated by more people looking for
declines. In December, 297,000 people even higher jobless rates. Most impor- work, it turned out to be a telltale sign
found jobs, but at the same time the tantly, however, it was the change in the that underlying economic conditions were
workforce declined by 260,000, according jobless rate and not the change in weakening and the US economy had
to the Household Employment Survey. It’s underlying factors such as employment or become increasingly vulnerable to shocks.
impossible to determine why people opted the labor force that offered the most
to stop seeking jobs, as movements in and accurate economic intelligence. Since 1970, there have been only five
out of the labor force are volatile. occasions—including December
For example, in May 2008 the jobless rate 2010—when the jobless rate dropped by
However, we think the mixed signals increased by 0.5 percentage point from 0.4 percentage point or more. Since there
should not detract from the importance of 4.9% to 5.4%. Most of this gain was have been so few comparable declines,
we took a closer look at each case to More Evidence of a Turning Point
see if we could distill any common Importantly, there is additional evidence Display 2
characteristics. arguing that the labor markets are near a Big Companies Report Record Hiring Plans
turning point. For example, hiring Percentage Increase in Employment in Six Months
In two cases, the unemployment rate was intentions of executives increased sharply
50
at nearly 10% and the economic recovery to a record in the fourth quarter, according
40
had just begun, such as in 1983. In the to the Business Roundtable CEO survey.
other two cases, in 1996 and 1998, job (Display 2). Meanwhile, hiring intentions 30

Percent
and economic growth was relatively of small businesses reached a two-year 20
robust. Most importantly, in all four cases, high in December, according to the
10
the sharp declines in the jobless rate were National Federation of Independent
0
driven in part by a reduction in the labor Businesses (Display 3).
02 03 04 05 06 07 08 09 10
force, while the average size of the decline
in the labor force was identical to the We think there is ample evidence to As of December 2010
Source: Business Roundtable and Haver Analytics
decline of December 2010. support the view that the sharp fall in the
jobless rate in December 2010 to a
This doesn’t mean that the next employ- 30-month low was an inflection point Display 3
ment report will show a relatively large rather than a statistical fluke. Indeed, Small Firms Are Also Hiring Again
gain in jobs and a further decline in the history says the most important early Percentage of Small Businesses Planning to Hire
jobless rate. In fact, in the past, the signal from the labor markets is the change
12
unemployment rate ticked up by 0.1 point in the unemployment rate, and not the
8
in more than half the months immediately granular data on job growth or labor force
4
following a sharp fall of at least 0.4 point changes. Changes in the unemployment

Percent
0
in the jobless rate. But the sharp falls in rate tell us something about underlying
(4)
the jobless rate were inflection points, shifts taking place in labor markets and the
(8)
that signaled sharp declines in the jobless general economy. In our view, those
(12)
rate and large gains in employment in changes—positive or negative—will
2008 2009 2010
1983, or continued low rates of unem- become clearer in coming data reports, but
ployment and strong job growth in 1996 the general trends indicate that the US As of December 2010
Source: Haver Analytics and National Federation of Independent
and 1998. labor market is healing and job growth is Business
poised to pick up. n

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JANUARY 14, 2011 ECONOMIC PERSPECTIVES