The jobs report for March showed continuing strong payroll gains and an uptick in the unemployment rate (in a good way) but the most positive feature of the report was the increase in the labor force participation rate.
The Bureau of Labor Statistics (BLS) reported payroll employment expanded by 215 thousand in March and revised the prior two months down by a net one thousand. The average gain in the first three months of 2016 was 209 thousand, down from 251 thousand in 2014 and 229 thousand in 2015, but still a promising pace after a disappointing January.
The unemployment rate ticked up to 5.0% from 4.9% in February based on solid gains in both the labor force (396 thousand) and the number of persons employed (246 thousand). Six months of strong gains in the labor force and employed persons has kept the unemployment rate hovering between 4.9% and 5.0%. The uptick in the unemployment rate based on gains in the labor force, employed persons and the labor force participation rate is actually a positive signal that previously discouraged workers are returning to the labor force.
The labor force participation rate was 63.0% in March, up from a low of 62.4% in September. The participation rate peaked in the late 1990s at 67.1% and held steady into 2000 before starting a retiring baby boom generation induced decline in 2001. Participation drifted down to 66.1% by 2007 but declined rapidly thereafter as the recession added a cyclical component to the demographic driven decline. Between 2007 and September of 2015 participation fell another 3.7 percentage points to 62.4%. Since September, participation has climbed back to 63.0% potentially signaling the beginning of a recovery from the cyclical aspect of the decline and further improvement in the labor market.
The “official” unemployment rate of 5.0% in March is considered near normal by most economists given a dynamic labor market where new entrants and job switchers provide a natural amount of flux. But the depressed participation rate makes the current unemployment rate misleading because it excludes people who are willing to work, have looked for work in the prior twelve months, but not in the four weeks prior to the BLS employment survey. These people are referred to as marginally attached to the labor force and are not reflected in the unemployment rate, but are reflected in the depressed participation rate. Including these people in an expanded unemployment rate would raise it to 6.0% and help to explain the absence of mounting wage pressure given the decline in the official unemployment rate. Including employees working part-time for economic reasons (e.g., hours/days/shifts cut) would raise the expanded measure to 9.8%, a significantly less healthy labor market than the official rate implies.
An increasing labor force participation rate will keep upward pressure on the unemployment rate as the marginally attached workers reenter the labor force and are captured in the official measure. How high is the participation rate likely to go?
The answer is part cyclical and part demographic. The recession had opposite effects on the participation rates of older and younger workers: younger workers postponed entry or left the labor force to retrain or improve their skills, depressing their participation rates, while older workers postponed retirement to make up for asset value (e.g., homes, 401k) losses during the recession, raising participation rates. Assuming participation rates will return to pre-recession levels provides the cyclical component. The aging of the population and continuing departure of the baby boom generation from the labor force provides the demographic component.
Beyond the effects of the recession, the aging of the population matters because participation rates vary by age. The highest rates are between ages 25 to 54. Rates for younger workers rise rapidly before age 25, rates for workers over 54 decline rapidly. As the population ages through these brackets the overall participation rate will be influenced by the age/participation rate mix.
Assuming age specific participation rates recover to the levels in 2000, the overall participation rate could rise another 1.2 percentage points to 64.2% before falling back to the current 63.0% over the next five years due to the aging population. An alternative assumption would be that the modest increases in the participation rates of older workers were not induced by the recession, but rather part of a trend of older workers with less physically demanding occupations remaining in the workforce longer.
Assuming the participation rates of younger workers recover to peak levels, but the rates for older workers maintain their current elevated levels the overall participation rate could rise to as high as 66.0% before falling back to 64.5% by 2020 based on the aging population.
Payrolls and the unemployment rate will get the headlines but the labor force participation rate will have a big impact going forward.