Is the Economy Rebounding or Is the Unemployment Rate Wrong?
The surprising answer is “both”
The news that unemployment fell in May surprised everyone, including most economists. Before the release of the latest jobs report on June 5, economists had anticipated that 8 million additional jobs would be lost between April and May. Instead, payroll employment rose by 2.5 million jobs—the largest monthly increase ever recorded—and unemployment fell by 1.7 percentage points.
But the good news is tempered by the fact that the true unemployment rate is higher than the 13.3 percent reported by the Bureau of Labor Statistics (BLS). The BLS estimates that because of a data misclassification the unemployment rate could actually be over 16 percent. Indeed, according to my calculations, the rate is likely even higher, at around 19.5 percent.
While the record-breaking increase in jobs is welcome news, it shouldn’t necessarily be surprising: some states had started to allow businesses to reopen the week in mid-May when the BLS collected its data. The fact that employment has begun to bounce back so rapidly suggests that although the sharp decline in consumption of goods and services caused unemployment to spike, mandatory closures also had a substantial effect.
University of Michigan economist Justin Wolfers explained the drop in employment as being the sum of two effects: recession and suppression. COVID-19 would have created a recession by itself, just as the 1918 flu pandemic did, as workers and consumers practiced social distancing by working remotely when possible and avoiding stores, restaurants, and travel. But the mandated business closures and stay-at-home orders by governors and mayors suppressed economic activity more than would have occurred naturally. That employment suddenly rose just as some states ended those orders is evidence of this.
Despite the good news, the current level of employment is more important than month-to-month changes. With 21.5 million fewer people employed in May than in February, we’ll need to see many months of similar employment growth to get back to where we were.
The drop in the official unemployment rate caused a storm of accusations in the media and on Twitter that the Trump administration was manipulating the numbers. Economists from all sides rushed to refute these allegations, arguing that the BLS is regarded as the gold standard in data collection and processing. While unemployment is indeed higher than the official measure would suggest, the BLS has been transparent about the pandemic-related data problems.
Based on their answers to survey questions, millions of workers have likely been misclassified as being “employed, but absent from work,” rather than “unemployed, on temporary furlough.” This misclassification comes from the BLS scrupulously not changing survey respondents’ answers after they have been finalized. Ironically, by following policies designed to avoid the appearance of political manipulation, the BLS has found itself accused of that very thing.
Furthermore, the BLS acknowledged the problem two months ago when it first showed up in the March jobs report. Each subsequent month the bureau has published additional information on the jobs report, including an analysis of what the unemployment rate would be if those likely misclassified workers had been included in the unemployment rate calculation.
But there’s another issue with the unemployment rate that hasn’t been properly addressed by most economists and journalists: the failure to include workers who are considered to have left the workforce since February. A worker is only counted as being in the labor force if he or she is working or actively seeking employment. Many workers may not have looked for work because of pandemic-related business closures, as well as the generous federal bonus to unemployment insurance (the Federal Pandemic Unemployment Compensation in the CARES Act). They therefore aren’t officially counted as unemployed. In the BLS statistics, it looks like they’ve just vanished from the labor market, but they’ll likely start to pursue employment as businesses reopen.
When the 4.9 million workers likely misclassified as “employed, but absent from work” and the 6.3 million workers who seem to have left the labor market are included in the unemployment rate, it rises to around 19.5 percent for May (see equation 2). I call this the “pre-pandemic comparable unemployment rate” because it’s comparable with labor market conditions in February before the COVID-19 recession began. Although this revised unemployment rate is still high, it’s an improvement over the 23.5 percent level reached in April.
The jobs numbers should continue to improve, given that more states and cities have had time to reopen and the alarm over COVID-19 has recently diminished. Many people are eager to escape their pandemic-imposed isolation, as well as enjoy summer weather, so we should see increased economic activity and rising employment as businesses gear up to meet this demand. This is especially true because the federal bonus to unemployment insurance helped ensure that many people did not see substantial decreases in income, despite being unemployed.
Some previous pandemic hotspots, like the Washington, D.C. suburbs in northern Virginia, have seen substantial decreases in new COVID-19 cases. However, in other states, like Florida, infections seem to be rising again.
Until we reach herd immunity, we’ll have to continuously thread a needle between reigniting the spread of COVID-19 and unnecessarily hurting the economy, which could shift our current short-term recession to a longer, more damaging, downturn. June’s jobs report might well look even better than May’s, but we’re not assured of a continuous upward trend if we see a resurgence of COVID-19.