Measuring Unemployment: Types and Rates
Every month, the news reports "the unemployment rate." Suppose it drops from 6% to 5.5%. Is that always good news? What if it fell because people gave up looking? By the end of this page, you will be able to compute the rate yourself and decide how much it really tells you.
Who Counts as Unemployed?
The Bureau of Labor Statistics (BLS) measures unemployment with a monthly survey of households called the Current Population Survey (CPS). It starts with the adult civilian noninstitutional population: people 16 and older who are not in the military and not in institutions such as prisons or nursing homes. Then it sorts each person into one of three groups.
| Group | Who is in it |
|---|---|
| Employed | Has a job (full-time or part-time) |
| Unemployed | No job, actively looked for work in the past four weeks, and is available to work |
| Not in the labor force | No job and not looking: full-time students, retirees, stay-at-home parents, discouraged workers |
The labor force is everyone who is employed or unemployed:
$$\text{labor force} = \text{employed} + \text{unemployed}$$Classify each situation as frictional, structural, or cyclical unemployment. (a) A recent high school graduate in Denver is searching for her first full-time job. (b) A…
Classify each situation as frictional, structural, or cyclical unemployment. (a) A recent high school graduate in Denver is searching for her first full-time job. (b) A factory worker is laid off because demand for cars collapses during a recession. (c) A coal miner loses his job because the mine closes after power plants switch to other fuels, and he lacks the skills for new jobs.
The Two Key Rates
Two formulas do most of the work in this topic.
The unemployment rate asks: of the people who want to work, what share cannot find a job? The participation rate asks: what share of adults are in the labor market at all? Notice that the denominators differ.
The labor force of an economy is 160 million people, and 8 million of them are unemployed. Compute the unemployment rate. Write the formula you use.
The labor force of an economy is 160 million people, and 8 million of them are unemployed. Compute the unemployment rate. Write the formula you use.
The adult civilian noninstitutional population is 250 million, and the labor force is 160 million. Compute the labor force participation rate. Name two groups of adults…
The adult civilian noninstitutional population is 250 million, and the labor force is 160 million. Compute the labor force participation rate. Name two groups of adults who are not counted in the labor force.
In an economy, the adult population is 240 million, 150 million people are employed, and 10 million are unemployed. (a) Compute the labor force, the unemployment rate,…
In an economy, the adult population is 240 million, 150 million people are employed, and 10 million are unemployed. (a) Compute the labor force, the unemployment rate, and the labor force participation rate. (b) Suppose 4 million of the unemployed become discouraged and stop looking for work. Recompute the unemployment rate and the participation rate, and explain why the unemployment rate fell even though no one found a job.
Three Types of Unemployment
Economists classify unemployment by its cause. There are three types.
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Frictional unemployment: short-term search time while workers and jobs find each other. Examples: a new graduate looking for a first job, someone who quit to find a better one, a family moving to Denver. It is normal, even healthy.
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Structural unemployment: a mismatch between workers' skills or location and the jobs available, caused by technology, changing industries, or shifts in where jobs are. Example: a coal miner whose mine closes, or a cashier replaced by self-checkout. It lasts longer than frictional unemployment.
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Cyclical unemployment: job loss caused by a downturn in the business cycle, when falling demand leads firms to cut production. Example: auto workers laid off in a recession. It rises in recessions and falls in expansions.
For each policy, identify which type of unemployment it mainly targets and whether it tends to raise or lower the natural rate of unemployment. (a) An online job-search…
For each policy, identify which type of unemployment it mainly targets and whether it tends to raise or lower the natural rate of unemployment. (a) An online job-search platform run by a state that makes job postings easier to find. (b) A free retraining program for workers displaced by automation. (c) A large increase in the length and generosity of unemployment benefits. Explain each answer briefly.
The Natural Rate and Full Employment
The natural rate of unemployment is frictional plus structural unemployment. It is the rate that exists even when the economy is healthy. Full employment does not mean 0% unemployment. It means zero cyclical unemployment, so the actual rate equals the natural rate.
$$\text{cyclical unemployment rate} = \text{actual rate} - \text{natural rate}$$-
Actual rate above the natural rate: positive cyclical unemployment, real GDP below potential (a recessionary gap).
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Actual rate below the natural rate: negative cyclical unemployment, real GDP above potential (an inflationary gap). The economy is stretched past its sustainable capacity.
The natural rate moves too. Better job-matching tools lower frictional unemployment. Retraining reduces structural unemployment. Longer and more generous unemployment benefits can lengthen job searches and raise the natural rate.
The natural rate of unemployment in an economy is 5%. (a) Define the natural rate and say which types of unemployment it includes. (b) If the actual unemployment rate is…
The natural rate of unemployment in an economy is 5%. (a) Define the natural rate and say which types of unemployment it includes. (b) If the actual unemployment rate is 7%, how much cyclical unemployment is there, and is real GDP above or below potential? (c) If the actual unemployment rate is 4%, what is the cyclical unemployment rate, and what does that suggest about real GDP relative to potential?
Limits of the Unemployment Rate
The official rate is useful but imperfect.
It can understate weakness:
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Discouraged workers are not counted. If they quit searching, the rate falls even though no one found a job.
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Underemployment: people working part-time who want full-time hours, or overqualified workers in low-skill jobs, count as employed.
It can overstate weakness:
- Some people say they are searching but are not serious (or are working off the books in the underground economy), so they count as unemployed.
In month 1, an economy has an adult population of 250 million, a labor force of 160 million, and 152 million employed. During month 2, 3 million employed workers are…
In month 1, an economy has an adult population of 250 million, a labor force of 160 million, and 152 million employed. During month 2, 3 million employed workers are laid off and begin searching, 1 million unemployed workers become discouraged and leave the labor force, and 2 million people who were not in the labor force start looking for work. No one finds a job during the month and there are no other changes. (a) Compute the unemployment rate and the labor force participation rate in month 1. (b) Compute the number employed, the number unemployed, the labor force, the unemployment rate, and the participation rate in month 2. (c) Explain how a change in the participation rate can move the unemployment rate even when employment does not change.
The official unemployment rate in an economy is 4%. A policy analyst argues that this number is a perfect indicator of labor market health. Evaluate her claim. In your…
The official unemployment rate in an economy is 4%. A policy analyst argues that this number is a perfect indicator of labor market health. Evaluate her claim. In your answer, (a) give two reasons the official rate might understate the true amount of labor market weakness, such as discouraged workers and involuntary part-time work, (b) give one reason the official rate might overstate it, and (c) explain why an unemployment rate of 4% can still be consistent with an economy operating below potential output if the natural rate is 3%.
Back to the start: a drop from 6% to 5.5% is good news only if people found jobs, not if they stopped looking. Check the participation rate and the employment level too.