Myth: Inflation and Scarcity
The change in the definition of inflation has caused a lot of confusion. A prime example of this confusion is when modern day economic students tend to confuse two different economic phenomena as being the same. These two phenomena are inflation and scarcity and according to traditional economists they are not the same. ✓Consider the […]
The 10 Trillion Dollar Sovereign Wealth Fund Game!
Imagine a fund with so much money that it held 1% of all the equity from all the stock exchanges of the world and still had money left over to buy huge quantities of other assets as well! Now, imagine that most people in the world were not even aware of the existence of such […]
How Should Inflation Be Measured?
In the previous few articles, a series of arguments has been made as to why the current way we use to measure inflation is not appropriate. A lot of the criticisms have received rebuttals from current economists. However, for a lot of criticisms, they do not have an answer at all. The usual reply received […]
How To Predict Real Estate Market and Identify Asset Bubbles ?
Housing prices can go up under two main scenarios: One is when the fundamental economy of a given location has undergone a change. This means that there is somehow a better standard of living or more employment available in that area making it imperative for more people to stay there. Or else, there could be […]
GDP and the Dirty War Business
In the previous few articles we have seen how the GDP approach to calculating economic growth has led to the proliferation of dangerous fallacies. One particularly dangerous fallacy is that war is good for economic growth. This creates the notion that economics as a science is somehow opposed to human welfare and peaceful living. Simply […]
In this article, we will explain the first and probably the largest flaw in the calculation of unemployment rate i.e. the discouraged worker flaw. This issue has been widely debated in the media and amongst the experts for years. However, little has been done to make the average person aware of it.
The unemployment rate is supposed to be a fair metric which gives the correct picture of the number of people which are unemployed in any given country. However, there is some fine print in the definition, a loophole which works in the favor of governments. It works in the government’s favor because it makes the unemployment rate appear smaller in bad times i.e. less worse than it actually is. However, when times are good, there is no effect on the unemployment rate.
The fine print in the definition is that:
The logic used behind the discouraged worker exclusions is grounded in solid fact. If some people decide that they are not interested in working anymore, they must be removed from the calculations. However, the criterion adopted to identify such discouraged workers is preposterous.
Consider the first criterion i.e. 4 weeks of active job search. Compare and contrast this with the fact that the average person who loses his job in the US takes about 40 weeks to get another job! Let’s say that for any 4 consecutive weeks, they were not looking for a job because of any reason, they are simply classified as people who do not wish to work and are removed from the labor force!
Consider the second criterion. This is even harsher. A person that has been unemployed from the past 52 weeks is simply removed from the labor force regardless of whether or not they were actually looking out for a job! Now compare and contrast this with the statistic that during recessionary times, the average American will be unemployed for 90 weeks before they can find a job. Therefore, most of the average Americans will simply be excluded from the labor force in recessionary times. As a result of this the unemployment rate will appear to be much better than what it should look like!
Consider the following example, to understand the gravity of the situation. Let’s say a recession hits the US and in reality about 40% of the workforce is unemployed. However, half of those 40% have been unemployed for over a year. Hence common sense would say that the situation is grave and the 20% that have been unemployed for over a year are the worst affect and must be rehabilitated as soon as possible.
This is not however, how the official unemployment rate calculation works. The official rate would reduce the 20% from the labor force. The people who were therefore the worst affected and therefore need the most rehabilitation are simply ignored from the calculation. The other 20 will be considered unemployed. However, the labor force has fallen to 100-20 i.e. 80 after excluding the so called discouraged workers. The official unemployment rate would therefore be 20/80 i.e. 25% when in reality the situation is much worse since 40% people are unemployed and over half of them for a very long period!
The discouraged workers are removed from the calculation in bad times whereas they have no effect on the calculation in good times. If the 4 week and 52 week criteria are met, then the discouraged worker issue becomes meaningless. However, the ironical part is that the unemployment rate is usually important in bad times. Bad times are when governments are supposed to create policies based on this number and if this number is misleading at that moment, then the policies can be adversely affected!
The discouraged worker flaw makes the unemployment rate a completely biased metric. Hence, when an average person reads the unemployment rate, they must also pay attention to the labor force participation rate. A fall in unemployment should not be in conjunction with a fall in labor force participation rate or else the real reason behind the fall of the unemployment rate could be the exclusion of people from the calculation.
As a result of persistent lobbying by many economists, governments all over the world now also include the number of discouraged workers in their unemployment rate reports. However, this number is usually mentioned in the fine print and not well publicized. As a result, only people who know a fair bit about unemployment can and do include this number in their analyses.
Your email address will not be published. Required fields are marked *
