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Employment

May 14, 2010

What if unemployment was as forecast?

Some folks have asked for an update to a post we did last year on the paths of unemployment – considering we now have eights months more data to work with, it’s worth taking another

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Some folks have asked for an update to a post we did last year on the paths of unemployment – considering we now have eights months more data to work with, it’s worth taking another squiz at.

One of the often unappreciated issues with the Australian economy, or any economy for that matter, is time – particularly the time it takes for labour markets to recover from any arbitrarily large jump in unemployment. Did you know, for instance, that it took over 8 years for unemployment to get back to around where it started from with  the 80’s recession and over 10 years for it to fully recover from the 90’s recession?

To demonstrate it, we can track the change in unemployment through those recessions (and add in the recent GFC period as well) by taking the unemployment rate the month before it started growing through those three periods as a baseline. As the unemployment rate increased as time went on through those recessions, we can subtract the baseline unemployment rate from the unemployment rate that occurred during each subsequent month.

That shows us not only the size of the increase in the unemployment rate through those recessions, but it also shows us the shape of recovery – effectively demonstrating the paths of unemployment growth and recovery during and after economic downturns. For this, we’ll use the ABS Labour Force Survey data – the seasonally adjusted version – and use months as our time unit.

(click to expand)

unemppaths1

Saying that the higher the level of unemployment that a recession causes, the longer it takes to wash out of the system is sort of stating the obvious, but the time frames involved in the recovery – over a decade in the case of the 90’s recession – is something really worth keeping in mind.

One interesting thing to come out of the 80’s and 90’s recession was the similarity in the rate of unemployment recovery. If we run a straight regression line through the recovery period of each, the slope of the lines – the average monthly amount that unemployment decreased by- are very, very similar.

unemppaths2

Back in the 2009/10 budget, Treasury had forecast that unemployment in Australia would hit 8.25% around June 2010.

If we chart that forecast against what actually happened, and assume that the behaviour of the recovery in unemployment into the future will occur at the same rate as occurred during the previous two recoveries in the 80’s and 90’s (around a 0.044% reduction per month from the peak rate) – it makes for stark viewing, showing what would be two very different Australias:

unemppaths3

At the moment, our unemployment rate is 1.4% higher than what it was immediately before we entered the GFC. That puts Australia today somewhere in the vicinity of being 6 years ahead of economic schedule than what would have occurred if our unemployment rate reached Treasury forecasts and the recovery rate was the same as the last two recoveries. Under those assumptions, Australia wouldn’t have reached an unemployment rate 1.4% above what we entered the GFC with until sometime around June 2016. Yet, let’s say the assumptions are wrong and it was only 5 years, or 7 years or whatever – the point is that the magnitude of the difference is enormous – not measured in months, but measured in many years.

This is why time is such an important function of policy action – at least as far as managing unemployment is concerned. The smaller you can make unemployment peak, the quicker you can deploy resources towards it, the shorter is the time it takes to recover back to where you were. But it also says something else about our labour market – while shedding jobs is easy, getting them back is a very slow and grinding process where the time involved probably needs to be appreciated a little more.

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