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What is the unemployment problem?

Created:

15 October 2008

Written by:

Chris Dillow

There's a paradox in today's unemployment figures. On the one hand, the jobless number has risen appallingly. Between the March-May and June-August periods, unemployment rose by 164,000 to 1.79 million - the biggest three-monthly increase since the recession of 1991. But on the other hand, the number of redundancies looks much less alarming. Yes, they rose - to 147,000 in the latest quarter. But the redundancy rate is below the average for the last 10 years (figures only began in 1995), suggesting things aren't so terrible. What's going on?

One possibility is that individual job losses have been too small to show up in the redundancy numbers; firms have shed labour by natural wastage or by letting individuals go, rather than by widespread redundancies. This is a natural first response to a downturn.

A second explanation is that it is the labour force that has grown, and not just jobs that have shrunk. There was a 42,000 rise in the labour force (the sum of workers and unemployed) in the quarter. This is surprising because the labour force often shrinks in recession, as people don't bother looking for work but rather take early retirement, become students, or look after the children.

To see the third explanation, we must abandon a common but mistaken way of thinking of unemployment - that is, to think of it as a pool. It's not. Unemployment is instead a quite fast-moving reservoir. Every day, new water joins it and other water leaves. Changes in unemployment occur not just because inflows change, but because outflows do. The change in unemployment depends upon the rate of job creation, as well as the rate of job destruction. And rates of both these are high even in times of "macroeconomic stability."

Unemployment might be rising not just because folk are losing their jobs, but because they are finding it harder to find new ones.

Sadly, there's no direct measure of this; National Statistics reports only the net change in jobs, not the much bigger gross changes. But there is one clue it might be happening. Table 10 of the figures (pdf) show that the proportion of claimant count unemployed who left the register in September was some two percentage points lower than the proportion in September 2007.

Granted, there are loads of reasons why people leave the count - not least of which is to go onto other benefits. But one reason is that they find work. Perhaps fewer are doing so now than a year ago.

Common sense predicts that this should be just what happens when credit becomes tighter. The people who suffer from this are not so much existing firms, which can often offer a good credit history and collateral, but rather potential new firms, which banks regard as riskier. So we get less job creation.

This isn't just a problem for the unemployed, and those about to join them. Traditionally, a huge amount of long-run economic growth occurs because new firms emerge. And often, it's new firms that are more productive and efficient than older ones. Anything that retards their emergence, therefore, hurts the economy's long-run potential growth rate.

Maybe, therefore, we are starting to see the effects of the credit crunch in the data. And it's not pretty.

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