Is the Unemployment Problem Structural or Cyclical?
Economist Jesse Rothstein has published a working paper supported by the Foundation's Great Recession initiative. Entitled "The Labor Market Four Years Into the Crisis: Assessing Structural Explanations," the report seeks to understand why unemployment has remained so high in America since the economic crisis. As he states in the paper, economists offer two possible explanations:
One camp, of which Paul Krugman is perhaps the most prominent member (see also Romer 2011), argues that recent poor outcomes are primarily reflective of a shortfall of aggregate demand. This camp prescribes aggressively stimulative monetary policy – which would have to take unconventional forms, as the federal funds rate has been at or near its zero lower bound since late 2008 – and additional fiscal stimulus to raise effective demand.
A second camp points to “structural” factors as important impediments to labor market recovery. This diagnosis comes in several flavors. Some focus on mismatch between the types of labor supplied by workers and the types demanded by employers. As Narayana Kocherlakota, President of the Federal Reserve Bank of Minneapolis, described it in a 2010 speech, “Firms have jobs, but can’t find appropriate workers. The workers want to work, but can’t find appropriate jobs. There are many possible sources of mismatch—geography, skills, demography—and they are probably all at work” (Kocherlakota 2010).
But after reviewing the evidence, Rothstein argues there is little evidence for the structural hypothesis:
The most plausible sources of structural problems – labor supply disincentives due to conditional transfer programs like unemployment insurance or geographic immobility due to housing market frictions – do not appear to be quantitatively important. And the Beveridge Curve provides at best weakly suggestive evidence regarding the state of the matching
function.Indirect evidence also fails to support the claim. Structural explanations for inadequate recovery, whether due to supply reductions or to mismatch, imply that the labor market is actually much tighter than it appears, at least as viewed from the perspective of potential employers. There is no sign in the data that employers with jobs to fill are having trouble filling them, except perhaps in a few isolated and small submarkets such as resource extraction. Finally, the unprecedented rise in long-term unemployment, which some have pointed to in support of the structural unemployment hypothesis, turns out not to support that hypothesis after all. The extended period of labor market weakness that we have seen, combined with long-run demographic and labor market trends that predate the current recession, explains all or nearly all of the rise in the long-term unemployment share relative to past downturns, leaving no need to appeal to recent structural factors...
Read the full working paper.