HICKS: Certain unemployment causes worse than others

June 29, 2009

The unemployment data seem a straightforward bit of news, but understanding how job losses and gains figure into the news is a bit trickier. Economics textbooks tell us unemployment comes in three flavors: frictional, structural and cyclical.

Frictional unemployment is a natural part of an economy. Even during good times, workers change jobs voluntarily, are fired, or are in companies that fail. Annual turnover rates of 10 percent in the most stable industries are common, and may rise to half of workers in retail firms. As a consequence, something like 4.5 percent to 6 percent of the labor force is composed of these folks who are unemployed due to the normal frictions associated with job changes. A vibrant economy needs this type of job market.

The second type of unemployment is far more pernicious. Structural unemployment comes about when the skills of a worker become redundant. This type of unemployment most often results from some big technological shift that might render the jobs of buggy-whip makers and typists unneeded.

It also comes through changes in consumer tastes or productivity gains in one sector. The huge job losses in agriculture in the first half of the 20th century are a classic example. One percent to 2 percent of the labor force is unemployed at any one time because of structural unemployment.

Adding up the frictional and structural unemployment gives us roughly what economists call the non-accelerating inflation rate of unemployment, or NAIRU. We used to call it the "natural rate" of unemployment. That was an unfortunate moniker that served primarily to reinforce the widely held suspicion that economists are devoid of human feelings.

The best estimates have the size of the NAIRU ranging from 5 percent to 7.5 percent over the past 50 years.

The final type of unemployment is cyclical unemployment—that which comes as part of a recession.

The problem is that it is not always clear which one of these types of unemployment an individual falls into.

Recessions might well accelerate structural unemployment through the process of creative destruction. If all those RV jobs return to Elkhart, we might simply label the current woes as cyclical unemployment—temporary and related to the recession. If they do not, we might conclude that the expectations of higher gas prices substantially wounded the RV industry, making these permanent job losses of the structural type. The same recession might dampen frictional job losses as workers tend to play the labor market more conservatively.

Frictional unemployment is a necessary part of a healthy economy. Cyclical job losses, no matter how painful, are temporary. Structural job losses are the most painful both to individuals and to communities. These are the ones that leave workers with outdated skills and communities with large numbers of jobless residents.

Hicks is director of the Center for Business and Economic Research at Ball State University. His column appears weekly. He can be reached at cber@bsu.edu.

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