Ever since the job market began to recover in 2010, the decline in the unemployment rate has come with a big fat asterisk. The unemployment rate has been going down, the argument goes, but largely because people have stopped looking for work. That’s why the labor force participation rate — the percentage of the population looking for a job or employed — stands at 62.8 percent, down from 66 percent before the recession. The joblessness rate, as a reminder, stands at 6.1 percent.
Now comes a new White House report, prepared by the Council of Economic Advisers, that offers fascinating insights into what might be happening in the job market. The biggest headline in the report is the least surprising. It finds that about half of the decline in participation is the result of the baby-boomer generation beginning to retire. Economists have known -- and predicted -- this would happen for years. It should be no reason to worry. The report also finds that a sliver of the decline in participation is simply due to the elevated unemployment rate, which is still half-a-point or so above normal. In all recoveries, some people opt out of looking for work while the unemployment rate is higher than normal. This, thus, is "cyclical," and also offers little reason for concern.
But the most interesting and alarming part of the report examines what White House economists call the "residual" -- the factors beyond aging and cyclicality that explain why people are disappearing from the labor force. This is what we should worry most about. It's these people who may never return to jobs. The report finds that about a third of the decline in participation is attributable to these disappearing workers. If their exit from the labor force proves permanent, the nation's economy could suffer for years, never achieving the growth and prosperity it once could.
What's behind this residual is one of the big mysteries in economics today. As is why, according to the report, it only emerged in 2012. That's right: For the first two years of the recovery, the decline in labor force participation appears to have been normal, driven by aging and temporary effects from the recession. Only later on -- as the unemployment came down and the economic recovery continued -- did an unusually large number of workers start to abandon the labor force.
Two theories to explain what's going on
The report has no definitive answers for why workers appear to be disappearing, but it has two overarching theories:
The first theory is that higher levels of long-term unemployment as a result of the Great Recession are causing more workers to exit and remain outside the labor force. A well-chronicled feature of the economic recovery has been the very large numbers of Americans unemployed for more than six months -- 3.1 million in June. The report highlights other economic research that has shown that jobless Americans have lower odds of finding a job the longer they're unemployed. And a big part of the reason is that employers discriminate against those with long spells of joblessness.
But the line between long-term unemployed, who still technically are searching for work, and out-of-the-labor force can be blurry. In this sense, much of the decline in participation could be represented by the "shadow unemployed," as my colleague Matt O'Brien (and Federal Reserve Chair Janet Yellen) have called them: People who aren't looking for work, but would return if offered a job.
A study cited by the White House report has a few theories about why fewer people than expected are transitioning back into the job market given the improving economy. The main idea is that people outside of the labor force might suffer from the same discrimination as the long-term unemployed. The economists used the gloriously wonky term "negative duration dependence" to describe this effect, but it basically means that people outside the labor force also have a harder time getting a job the longer they're not working.
Some have speculated that workers have who have exited the labor force may have lost their skills and therefore can't find suitable jobs. Others have suggested they are stuck on government disability insurance or have enrolled in school. The White House report rejects those explanations.
The report's second theory essentially boils down to the idea that the participation rate is lower because when the recession started, the labor market was already much weaker than was widely recognized. Nearly every demographic group saw labor force participation declines ahead of the recession. It was especially problematic for men, who have been beaten down by declines in manufacturing, advances in workplace automation and expanding trade. The report does not specify how exactly the Great Recession would have led to an intensification in those trends. But it's not hard to imagine that the severe economic contraction would have kicked out many workers, particularly men, who were just hanging on to the labor force before the economic decline even began. It's startling to think about, but as a percentage of the population there are far fewer men working today than at any point in the past 50 years.
The report also has concerns about the more recent decline in participation by women and by young men of color. The labor force participation rate for working-age women rose from 35 percent in 1948 to over 75 percent in the late 1990s before drifting down to 73.9 percent in the recession. The participate rate for black men has fallen from above 74 percent in the 1970s to 63.3 percent today.
In the short term, the White House economists do not expect any major change in the labor force participation rate. Aging is likely to continue to push it down, but that will be offset somewhat by cyclical improvements in the job market that will draw more workers back in. Still, there remain significant risks. The decline in work by men and other demographic groups could continue or pick up. And long-term unemployed workers could decide to exit the labor market in even larger numbers.
How to help the job market?
To bolster the labor force, the economists propose several policies, which will be familiar to anyone who's listened to President Obama's agenda. At the top of the list is immigration reform, which would legalize the status of 11 million undocumented immigrants in the country and make it easier for high-skilled foreigners to immigrate to the United States. The second item is family-friendy policies, such as paid family leave, flexible work schedules and affordable childcare. Also on the list is expanding a tax credit for the working poor, money for job training, programs to help minority youth and investment in infrastructure.
I'd quibble with some of the emphasis here, particularly on immigration reform. There's no doubt that immigration reform would increase the size of the labor force; the Congressional Budget Office estimates it would add 9 million new workers by 2033. That would be good for the economy overall, but it would do little for Americans detached from the job market today. Family-friend work policies, meanwhile, could certainly help reverse the decline in participation by women, but Obama can't even bring himself to support the leading proposal to offer paid family leave, probably due to the cost.
Government-backed infrastructure spending, especially if targeted toward the long-term unemployed, is the most obvious and immediate policy that could address the problem.
There are several options. One is simply for the government to borrow at near-zero real interest rates to finance infrastructure projects. I appreciate concerns about excessive spending. But any good businessman will tell you that when interest rates are low, it's a great time to tackle deferred maintenance. We're going to have to fix America's decrepit roads and bridges at some point. Why not do it when it's cheap? The return on investment is almost certain to be positive.
A gas tax, which essentially charges drivers a fee for using roadways, would be another way to do it. Or you could do something more imaginative, like proposals by Obama and House Ways and Means Committee Chairman Dave Camp (R-Mich.) to use a small tax on repatriated U.S. corporate profits for infrastructure investment.
What is clear is without better policies, the vibrant American labor force that helped power the economy over the latter half of the 20th century is in danger of never being restored to its old luster.