In both years, the jobless rate fell by 0.9 of a percentage point: from 7.9 to 7 percent in 2013 and from 6.7 percent to 5.8 percent in 2014. So why is an identical almost-one-point decline so much better news this year than last?
The answer has to do with one of 2014’s more important, if somewhat overlooked, positive economic developments: The rate at which people participate in the labor force stopped falling.
This matters because of the way the federal government’s Bureau of Labor Statistics defines unemployment. To be counted as jobless, you have to be looking for work. If you give up looking, whatever the reason, as far as the B.L.S. is concerned, you’re out of the labor force.
But ever since the deep recession that began in late 2007, one reason people had been dropping out of the labor force was precisely because they couldn’t find work. That had the paradoxical effect of making the unemployment rate fall not because more people were finding work but because they were giving up the search for work.
In 2013, the share of the working-age population in the labor force fell 0.7 tenths of a percent, accounting for most of the decline in the unemployment rate. What appeared to be a tightening labor market was driven more by people dropping out than getting jobs. This year, the participation rate was nearly flat — up 0.1 tenth of a point — revealing a truly tighter labor market.
The movement of related indicators completes the story. Employers added jobs in both years but did so faster in 2014. The survey of households from which the unemployment rate is drawn also asks respondents about job growth. Monthly changes from this survey are too erratic to trust, but averaging over the year so far, the economy added 246,000 jobs per month in 2014 compared with 112,000 last year. (If you use the less volatile establishment survey, that same comparison yields 241,000 average jobs gained per month this year versus 204,000 in 2013.)
The number of part-timers wanting full-time jobs, another key measure of labor market slack, also fell faster this year than last, a decline of about 900,000 people in 2014 compared with a decline of about 200,000 in 2013. The B.L.S.'s most encompassing measure of slack — one that includes involuntary part-timers — fell faster this year than last, 1.7 percentage points versus 1.3 points.
Why is the stabilization of the labor force so important? For one, it tells us that the job market is finally tightening up in earnest. Second, the size of the labor force is a crucial factor in the economy’s potential growth rate, a key metric of our economic health that’s been lowered recently in part because of the decline in the labor force.
The labor force participation rate was about 66 percent before the recession; now it’s about 63 percent. Economists argue about how much of the decline is because of more benign forces, like retirement of baby boomers, as opposed to labor force dropouts who gave up looking for work, but the consensus is that at least half may be a function of weak job growth.
That raises the question: Can we get these people off the sidelines and back into the game? Janet Yellen, the Federal Reserve chairwoman, thinks so: “Some of these workers may rejoin the labor force in a stronger economy. Participation rates have been falling broadly for workers of different ages, including many in the prime of their working lives. Based on the evidence, my own view is that a significant amount of the decline in participation during the recovery is because of slack.”
I wholeheartedly agree, and would argue that the labor force stabilization we’ve seen is evidence that Ms. Yellen is right. If the economy keeps generating stronger job growth, labor participation should do more than just stay flat; it should tick up a bit.
Which brings us to the important caveat with which I began: There’s still a lot of slack left to be squeezed out of the system. For all the actual tightening in the 2014 job market, what is perhaps the most important indicator from the perspective of working families — wage growth — has hardly budged. Though commentators made a big deal out of the bump in pay from the last jobs report, the yearly trend in nominal hourly wage growth remains at about 2 percent, where it has been since 2010.
I’ve been doing some research that pulls together a lot of the above. Using a comprehensive measure of slack that accounts for both the gap in labor force participation and the elevated number of involuntary part-timers, I constructed a simple statistical model wherein wage growth is a function of this slack measure. This all-in slack measure fell 1.6 percentage points in 2014 compared with 0.4 points in 2013.
Under the assumption that the job market continues to tighten at its recent pace, it will be years before wage growth threatens to be inflationary and the Fed has to hit the brakes by raising rates. That would be late 2018, according to my model, and that’s assuming that the next few years’ labor market gains are more like 2014 than 2013.
So the message for policy makers both in Congress and at the Fed: steady as she goes. The labor market is finally tightening up, and that trend has the potential to pay real dividends to both the macroeconomy and the paychecks of working families.
