Ageing behind decline in US participation rate…
We continue our special series on the US labour market, which will determine the outlook for the economy and the Fed’s monetary policy. Today we focus on the participation rate (the labour force as a percentage of the population), which has continued to decline. Although this is normal during recessions, when fired workers, at some point, tend to stop looking for a job and leave the labour force, most upswings see the participation rate rise again. However, in August, the participation rate fell to 63.2%, the lowest level since 1978! As we outlined in our Macro Focus, US unemployment to shift the Fed?, 19 March 2012, we think that most of the drop in the participation rate is due to an ageing population.
…though workers have also become discouraged
That said, numbers from the Bureau of Labor Statistics suggest that more is at play. Indeed, in August, there were 2.3 million persons, who were available for a job during the survey week, but for a broad array of reasons had stopped looking for work. Of these 2.3 million persons, 0.86 million cited discouragement as the reason to stop searching for a job. Remarkably, both measures of persons that were marginally attached to the labour force, after having surged during the recession and its immediate aftermath, have barely declined in the past years, even though we have seen a modest recovery.
Three scenarios for the US unemployment rate
As the outlook for monetary policy has become so closely linked to developments in the unemployment rate, this raises the question whether these potential workers will flow back into the labour force. Although we are pretty confident that we will soon start to see a pickup in hiring as the recovery continues to gain traction, it is a bigger challenge to get a finger on the supply side of the labour market. Granted, based on our assumptions about population growth and ageing, we think that the long-run monthly growth rate of the labour force is currently around 80 – 90K, but that still leaves open the question of the discouraged workers. In our central scenario we take a balanced approach and assume 600K discouraged workers flow back into the labour force. In conjunction with employment growth gradually increasing to 250K at the end of 2014, this bring the unemployment rate to 6.5% in September of 2014, and to 6% in January 2015. In turn, together with our view that the Fed will lower its unemployment rate threshold to 6% during the September meeting, this suggests that we will see the first rate hike in the first quarter of 2015. However, if a stronger recovery were to prompt all discouraged workers and some of the other potential workers to start looking for a job again, leading to an inflow twice as large as under our base case, the 6% unemployment rate would only be reached in May of 2015. Whereas, if no discouraged workers would find their way back into the labour force, the 6% threshold would already be reached in October of 2014. Such a scenario could spell earlier than expected rate hikes, so the discouraged worker mystery deserves close attention going forward.