What's the real unemployment rate?
Published January 27, 2021
The unemployment is the most watched economic indicator by the media and the public. It’s easy to understand why. The unemployment rate is a very understandable statistic. To most, it immediately communicates what percentage of workers don’t have a job. Hence, if the rate rises, it’s interpreted as bad for the economy, while if the rate drops, that’s seen as good. Plus, unless you’re living off a retirement pension or large investments, people have to work and earn a paycheck in order to survive. So, unemployment is linked to other economic measures.
But behind the simplicity of the unemployment rate lies many questions and issues. Three important ones are, should everyone without a job be counted as unemployed, should a person’s effort in finding a job affect their classification as unemployed, and does a rise in the unemployment rate always suggest bad things for the economy?
Before I tackle these questions, let me address one misconception. It’s commonly thought the data for the unemployment rate come directly from information collected when a newly jobless person files for public unemployment compensation. Each state runs its own unemployment compensation system which pays jobless people a certain amount of money for a limited number of weeks. The amount paid and the number of weeks paid varies by state.
Still, since each state is able to track how many people are filing for unemployment compensation, it is logical to think these are the numbers used in calibrating unemployment rates for the states. Furthermore, it would then just be a matter of aggregating the state numbers to form a national unemployment rate.
However, there are problems with the unemployment compensation numbers. Not every jobless person files for the benefits, and they can still be jobless when the benefits end.
Instead, the unemployment rates for the nation and states are based on a separate survey of individuals conducted monthly by the federal government. A total of 110,000 individuals are contacted each month, and the survey is designed to represent the entire labor market. These surveys have been implemented by the federal government since the 1940s.
The monthly federal job market surveys ask a series of questions, and three of them are important for the definition of being unemployed. The first question is, “do you have a job?” A “yes” answer classifies the person as being employed, but a “no” answer does not necessarily classify the person as unemployed. Instead, a “no” answer means two more questions are asked.
The second question is, “if you don’t have a job, do you want a job?” At first glance, you might think, who doesn’t want a job? But what if you’re retired, like my wife? Or what if you are disabled and unable to work, as is a good friend of ours? Or maybe you’re just taking an extended vacation. These are some of the reasons why everyone without a job shouldn’t be counted as unemployed.
However, even if a person answers “yes” to the second question, indicating they want a job, there’s one more question to answer before they are considered unemployed. It is, “in the last month, have you actively looked for a job?” “Actively looking” means contacting potential employers, answering ads, or distributing resumes or job inquires. The individual must answer “yes” to this question to be officially considered unemployed.
It may seem odd that the third question is asked. However, the framers of the unemployment survey decades ago wanted to make sure a jobless person had a strong desire to find work as a condition for being counted as unemployed.
It’s the third question that can cause problems in interpreting the unemployment rate. If the economy is not doing well and jobs aren’t available, people without jobs may very well not look for work. Economists call these folks “discouraged workers.” Since they are not officially counted as unemployed, they can make the real unemployment rate higher than the official rate. Usually, not counting discouraged workers as unemployed lowers the official jobless rate by several percentage points. The federal government actually calculates an alternative unemployment rate that includes discouraged workers, but it receives little publicity.
Yet there are reasons to believe the undercount of the jobless rate has been higher during the pandemic. This is because more jobless folks aren’t looking for work for fear of catching the virus, or maybe because they need to care for a sick relative or children home from school. Including these individuals as well as typical discouraged workers as jobless could make today’s “real unemployment rate” between 10% and 11%, rather than 6%.
Ironically, as more vaccines are given and the economy improves, the official jobless rate may rise, rather than drop. This is because greater confidence about the job market and a return to normal life will motivate more jobless individuals to actively look for work. And until they find work, they will now be “officially” counted as unemployed.
It’s amazing something so simple as counting unemployment can be so complicated. Yet if you know the rules, you’ll be better able to understand how and why the jobless rate changes. Then, hopefully, you can decide where the economy is really going.
Walden is a William Neal Reynolds Distinguished Professor in the Department of Agricultural and Resource Economics at North Carolina State University who teaches and writes on personal finance, economic outlook, and public policy.