The “hole theory of employment”

With few exceptions (here´s one), there was not much to commemorate in yesterday´s employment report.

Yes, the unemployment rate dropped from 9% in October to 8.6% in November, but that could be mostly reflecting the reduction in the labor force. In the limit, just as dictators or populist presidents take on the task of “rewriting history” (Argentina just embarked on such a project under Cristina Kitchener) or “redefining Inflation” (Argentina guilty again), nothing stops one from “redefining” the labor force as comprising only those in fact employed, few as they might be, “automatically” bringing the unemployment rate to zero!

One problem is that everyone likes to talk in terms of rates, be it growth, inflation or unemployment, but LEVELS are terribly important. With that in mind, I´ll examine the unemployment/employment situation illustrating with a set of figures.

The first shows that when the crisis hit in mid 2008, the unemployment rate rose quickly. That happened because the labor force was still on the rise. Note that unemployment stops rising and then “gently” falls when the labor force does the same.

Why is the labor force contracting? Although population is rising, the rate of participation in the labor force is falling as observed in the next picture. All the news about the long term unemployed induces people to leave the labor force. Going back to school, or staying on in school for higher degrees is a “favorite”.

But isn´t employment rising? Yes it is, with the number of non farm employment (NFP) going up by 2.3 million over the last two years. That explains why the employment-population ratio has stopped falling over the same period. As mentioned, population is growing and the growth in employment has just been sufficient to keep the employment-population ratio stable. Note in the next picture that it is not that the employment situation is getting “better” as frequently mentioned by those that only think in terms of rates of change, only that it stopped “getting worse”, as when the ratio dropped over “Niagara Falls” in mid 2008.

Are we experiencing a “jobless recovery”? Not really, because the economy is not experiencing anything that could be called “recovery”, again despite what the “growth rates” watchers say! By “recovery” is meant that if you drop from the 100 level to the 80 level that you are climbing back to the original level. But that´s just not happening. You are “content” in remaining at the new lower level.

That can be easily understood from the next set of pictures (which “define” the “hole theory of employment”).

The top figure shows that nominal spending (NGDP) was evolving along path A, dropping suddenly and quickly down to path B. A “hole” was thus created. Along path B NGDP is growing close to what it was in path A but at a much lower LEVEL, so it´s not RECOVERING. It would be strange if employment showed a different behavior. The bottom part of the indicates that it is evolving accordingly.

The administration can go “blue on the face” from weaving “jobs plans”. Any success will be local and minimum. What needs to happen, once again, is for the Fed to TARGET a higher level of spending and “shoot for it”.