Oregon Office of Economic Analysis

This week we already took a look at the middle-wage job outlook in Oregon. Today we’ll introduce a new measure called the Total Employment Gap and examine when Oregon may hit full employment, or when the labor market is fully healed. Get caught up to speed with the Economic Recovery Scorecard.

What the Total Employment Gap illustrates is how far away the economy is from full employment. There are a few differing and technical definitions of what full employment is and the term is also generally used interchangeably with the so-called natural rate of unemployment, or the non-accelerating inflation rate of unemployment (NAIRU). However for these purposes, we are defining it in a broad sense to mean the condition where all or nearly all persons willing and able to work are able to do so, which is also the level of employment rates when there is no cyclical unemployment. The Total Employment Gap was originally developed by IMF economist Andrew Levin (see HERE and HERE for more) at the national scale.

Now, to answer this question, economists have historically turned to just examining the unemployment rate itself, relative to the natural rate of unemployment to gauge the health of the labor market. With the U.S. unemployment rate now at 5.6 percent and many economists’ estimates of the natural rate of about 5.5 percent, the old style of analysis would indicate that the economy is getting tight and is relatively healthy. However, we know that this time really is different than anything we have seen since the Great Depression. Labor force participation rates are down substantially, the share working part-time but want full-time work remains really high, plus the other measures such as the number of long-term unemployed and the like still indicate the economy is not all the way back to being healthy. Economists realize all of this and are trying to assess the amount of slack or under-utilization in the economy. Fed Chair Yellen has been pointing to many of these variables for years (Tim Duy has the Yellen Charts) and the Fed has gone so far as to introduce a new labor market conditions index to try and assess the labor market’s health. In the same vein, what Levin’s work on the Total Employment Gap does is try to incorporate these other factors that we know are going on into a clear and concise measure to gauge the strength of the economy. I find his work quite useful and informative and it really does incorporate some of these broader labor market issues economists are discussing. So much so that I have created an Oregon version of the Total Employment Gap. See footnote [1] for more on the methodology.

First I want to go over a measure that is both very important and misleading: labor force participation. It’s important because more workers, or more potential workers can raise the overall productive capacity of the economy. Conversely, fewer workers can shrink the capacity of the economy. However in today’s economy, the overall labor force participation rate can be misleading because of how it is mathematically computed and the demographics in the U.S. and in Oregon. Just look at the graph below, where I have plotted both the actual LFPR and one that is fixed at 2000 rates for each age cohort, from which I simply adjust for demographics over time [2]. From the start of the Great Recession through today, the adjusted LFPR was expected to decline 2.4 percentage points. Thus it is not an intellectually honest argument to say that the actual LFPR decline of 3.8 percentage points over the same period is due to an underperforming economy, because the rate is falling due to aging, regardless of the strength of the economy.

However, one can compare the differences between the actual LFPR with the adjusted estimates to get a sense of the participation gap in the economy. This participation gap is something that is missed when just examining the headline unemployment rate. So, combining the participation gap with the cyclical unemployment rate and underemployment rate — those working part-time but want full-time work — results in the Oregon Total Employment Gap.

According to this measure, Oregon’s labor market, and economy, is just over half-way back to pre-Great Recession levels. Looking across the host of metrics in the Economic Recovery Scorecard, that seems about right as well. The unemployment rate, currently at 7 percent in Oregon, is relatively near the natural rate of unemployment for the state, likely around 6 percent or so, if the U.S. is more like 5.5 percent (unfortunately this is more art than science.) The underemployment gap is slightly smaller today, however many more Oregonians today are working part-time but want full-time work than prior to the Great Recession. However the largest contributor to Oregon’s Total Employment Gap is the labor force participation rate gap as discussed above. In November, this gap accounted for about two-thirds of the Total Employment Gap (3.1 of the 4.7 percentage points.) Historically Oregon’s LFPR was much higher than the typical state, however it has fallen significantly further in recent years, and is currently well below the national rate. That being said it has likely overshot to the downside and while it is rebouding in recent months, our office’s forecast expects it to increase even further over the next few years, slowly closing that participation gap.

All told, Oregon is likely about two years away from reaching full employment, based on our office’s latest forecast. Economic growth — jobs in particular — accelerated in 2013 and have held steady at about three-quarters throttle throughout 2014. Similar rates of growth are expected for 2015 and 2016, although the gains are becoming more broad-based in nature (e.g. middle-wage jobs, stronger growth outside of Portland, and the like.) Stronger job growth is resulting in the labor force response our office had hoped for/expected and along with an improving economy and tightening labor market, should come better wage gains, which may be the last piece of the puzzle to fall into place before most Oregonians believe the economy is all the way back.

[1] Unemployment Gap is actual unemployment rate relative to the Congressional Budget Office’s estimate of NAIRU plus 0.75% due to Oregon’s higher unemployment rate. Participation Gap is actual labor force participation rate relative to 2000 rates adjusted for demographics. Underemployment Gap is full-time equivalent number of Oregonians working part-time for economic reasons as share of labor force relative to 2.0%, a full employment estimate level.

[2] These are just our office’s estimates and others do exist. The Oregon Employment Department’s report on LFPR has their own. The White House’s Council of Economic Advisors’ report last year on LFPR has a round-up of many national estimates, including their own as well. Overall the same general trends are evident in these various estimates, even if the very specifics do differ.