The trap

The curse of long-term unemployment will bedevil the economy

Jan 14th 2010 | WASHINGTON, DC | From The Economist print edition

THE 2000s—the Noughts, some call them—turned out to be jobless. Only about 400,000 more Americans were employed in December 2009 than in December 1999, while the population grew by nearly 30m. This dismal rate of job creation raises the distinct possibility that America’s recovery from the latest recession may also be jobless. The economy almost certainly expanded during the second half of 2009, but 800,000 additional jobs were lost all the same.

It took four solid years for employment to regain its peak after the 2001 recession. With jobs so scarce, wages stagnated even as the cost of living rose, forcing households to borrow to maintain their standard of living. According to Raghuram Rajan, an economist at the University of Chicago, this set the stage for the most recent crisis and recession—a crisis, ultimately, caused by household indebtedness. If the current recovery is indeed jobless, wages will continue to lag. Since they are now virtually unable to borrow, households will have to make do with less, and reduced spending is likely to make the economic recovery more uncertain still.

So which is it to be: jobless or job-full? Of paramount concern is the growth in long-term unemployment. Around four in every ten of the unemployed—some 6m Americans—have been out of work for 27 weeks or more. That is the highest rate since this particular record began, in 1948. These workers may forget their skills; and many began with few skills anyway. Just as troubling is a drop of 1.5m in the civilian labour force (which excludes unemployed workers who have stopped looking for work). That is unprecedented in the post-war period. If those who have stopped looking were counted, the unemployment rate would be much higher. These discouraged workers represent a reservoir of labour-market slack that will dry up only with strong economic growth.

On the other hand, structural unemployment in the economy may not be quite as problematic as is widely feared. Declines in manufacturing, construction and financial employment in the current recession represent about half of the 8m jobs lost. Although most of the positions lost in those sectors are gone for good, other losses appear to have come in more cyclical sectors—such as service industries that are more likely to recover along with the overall economy. Add to that net job gains in health, education and government, and the employment gap seems a little less daunting.

But this assumes that cyclical sectors, like the retail trade and leisure, will indeed recover with economic growth. That may not be the case. The past decade’s jobs in retail and in entertainment were largely supported by household borrowing. Not only is a new wave of borrowing unlikely to develop after the recession, but household deleveraging is nowhere near complete, according to a new McKinsey study (see article). Having spent beyond their means in the previous decade, Americans will now need to spend beneath their means in order to reduce their debt burdens. That will place a strong constraint on job growth in those cyclical sectors.

Might income growth compensate for the consumption shortfall? Unfortunately, the weak labour market will continue to keep wage levels in check. There are more than six unemployed Americans for every job opening, and competition for job openings is getting more intense, not less, despite the resumption of growth.

The plentiful supply of workers reduces the incentive for firms to hire quickly, and will allow companies to underpay well-qualified workers. Real earnings declined last year and are unlikely to experience rapid growth soon.

The growing health and education sectors, with highly specific skills requirements, can absorb only so many workers per year, and no other sector promises consistent employment growth. Without job growth, household indebtedness will linger as a problem, depressing spending and hiring. Joblessness is a trap the American labour force may not soon escape.