The Global Economic Crisis. Long-term unemployment in the OECD Raja Junankar UNSW, UWS, & IZA

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1 The Global Economic Crisis Long-term unemployment in the OECD Raja Junankar UNSW, UWS, & IZA

2 Tony Atkinson (2008) Government budgets are under stress, but citizens are going to expect that, if funds can be found to rescue banks, then governments can fund unemployment benefits and employment subsidies. If governments can take on the role of lender of last resort, then we should be willing to see government as the employer of last resort.

3 Chaos Theory A butterfly flaps its wings in New York (Lehman collapse) A tsunami hits Europe!

4 Introduction From the Global Financial Crisis (GFC) to the Global Economic Crisis and the Great Recession. For many countries, e.g. USA, Spain, Ireland, UK this is worst recession since the 1930s. Possibility of a melt down in Europe? Combination of a bursting of financial and housing bubbles. The GFC has now led to a Eurozone crisis with Greece and Spain on its knees, and Italy teetering on the brink!

5 106 GDP Indices, PPP Germany Index Greece Index Spain Index UK Index Source: OECD

6 Proportion of Long Term Unemployment (%) DEU GRC ESP UK Source: OECD

7 Introduction OECD unemployment went up from 30.6 million in 2007 (Q4) to 47 million in 2010 (Q2) Long term unemployment (LTU) went up from 8.5 million to 14.9 million. Growth of unemployment and long term unemployment has serious economic, social, and human costs. Crisis measures introduced: interest rate dropped to almost zero, quantitative easing, fiscal stimulus packages introduced with IMF blessing!

8 1. Introduction Unemployment is a very unjust and undemocratic punishment, hits disadvantaged groups in society: the young, the unskilled, ethnic minorities, immigrants. The long term unemployed are not only a wasted resource, they are also a wasting resource. They not only lose their skills, they lose motivation, they fall ill, they drop out of the labour force In crude economic terms human capital is being depreciated. In human terms there is a mass of misery and suffering: often they live in poverty, they have lost their self respect and dignity and they accept the verdict of the labour market with a mixture of resentment and resignation.

9 2. Unemployment and Long Term Unemployment: Conceptual Issues ILO definition of unemployment: not working, looking for work, and available for work. Long term unemployment: unemployed for 12 months or longer Note at any one point in time we are measuring interrupted spells : some of the short term unemployed are likely to continue to remain unemployed ( interruption bias ) Length bias : more likely to be sampled if LTU.

10 2. Unemployment and Long Term Unemployment: Conceptual Issues Definitions: Numbers in LTU: NLTU Incidence of long-term unemployment, proportion of unemployed persons who are LTU (PLTU) (similar to dependency ratio ) LTU rate (RLTU) the number of LTU as a percentage of the labour force In general, NLTU, PLTU, and RLTU move in a similar fashion.

11 US Time Series of RLTU (Blue, RHS) and PLTU (Red, LHS) US PLTU US RLTU

12 Figure 1: Unemployment: Stock and Flows Unemployment: Stocks and Flows Fires & Quits Employment E Employment Inflows Outflows Not in the Labour Force Short Term Unemployment Not in the Labour Force New Entrants Long Term Unemployment Labour Market Programs

13 2. Unemployment and LTU: Conceptual Issues U t = U t-1 + I t - X t (1) Inflows (I t ) = Quits + Fires + New Entrants Outflows (X t ) = New Hires + Retires, Deaths + LMPs In a recession, inflows increase and outflows fall significantly. First impact: NLTU rises, but a fall in PLTU. But subsequently PLTU also increases as outflow rate falls. Demographic analogy: Increase in birth rates (I t ), average age of population falls (PLTU falls) Fall in mortality rates (X t ), average age of population increases (PLTU rises).

14 Figure 2: Response of Inflows and Outflows to a Demand Shock Inflows Outflows t 0 t 1 time

15 3. The Great Recession: Unemployment and LTU OECD U (000s) OECD LTU (000s) PLTU (%) Blue: Number of Unemployed, Red: Number of Long Term Unemployed, Green Proportion of LTU

16 Table 3: The Growth in LTU, 2007 Q Q3 Percentage Increase in NLTU, 2007 Q Q3 Percentage Point Increase in PLTU, 2007 Q Q3 Percentage Increase in PLTU, 2007 Q Q3 AUS DEU DNK ESP FRA GBR GRC IRL NZL SWE USA Which is the correct metric to look at increases in LTU???

17 Table 4: Increases in LTU-The Top Five Countries Percentage Increase in NLTU, 2007 Q Q3 Percentage Point Increase in PLTU, 2007 Q Q3 Percentage Increase in PLTU, 2007 Q Q3 ISL IRL USA USA USA ISL IRL ESP ESP ESP ISL IRL EST GBR NZL

18 6. What explains the increases in LTU? An increase in UR leads after a lag to an increase in LTU. A negative shock leads to an increase in the inflows into the unemployment stock. As the newly unemployed join U stock, some of the existing unemployed find it more difficult to find work (pushed to the end of the queue, hence LTU increases. Flower shop analogy, customers buy the freshest flowers, and the wilted flowers are left in the shop. When new flowers arrive, the old flowers look even worse the next day. If there was a big increase in inflows, there would be an initial decrease in the PLTU, but after some time PLTU would increase.

19 Figure 24a: The Relationship between PLTU and the Unemployment Rate, USA

20 Figure 24c: The Relationship between PLTU and the Unemployment Rate, UK

21 February 1978 November 1978 August 1979 May 1980 February 1981 November 1981 August 1982 May 1983 February 1984 November 1984 August 1985 May 1986 February 1987 November 1987 August 1988 May 1989 February 1990 November 1990 August 1991 May 1992 February 1993 November 1993 August 1994 May 1995 February 1996 November 1996 August 1997 May 1998 February 1999 November 1999 August 2000 May 2001 February 2002 November 2002 August 2003 May 2004 February 2005 November 2005 August 2006 May 2007 February 2008 November 2008 August 2009 May 2010 Feb The Relationship between PLTU and the Unemployment Rate, Australia PLTU UR Persons

22 7. Econometric Analyses: OECD Panel Data Earlier studies estimated aggregate functions for PLTU on lagged unemployment rates (reduced form), see Guichard and Rusticelli (2010), Jackman and Layard (1991), Chapman, Junankar, and Kapuscinski (1992). Test for structural break with GFC by intercept and interactive terms. Panel data on OECD quarterly data (for persons), 1977 Q1 to 2010 Q3. (Note For most countries, data begin in 2000 (approx).) Unbalanced sample. Results (Table 12)

23 Table 12: Dependent variable (PLTU) Pooled Fixed effects (1) (2) pltu pltu l1ur 1.086*** (3.76) (0.64) l2ur *** 0.478* (-3.43) (1.66) l1pltu 0.748*** 0.593*** (23.29) (18.88) l2pltu (-0.72) (-1.34) l3pltu ** ** (2.25) (2.13) l4pltu 0.176*** 0.195*** (5.79) (6.80) N Equation 1: F( 16, 1326) = Adj R-squared = Equation 2: R-sq: within = between = overall = Tests for Structural Break: F( 7, 1297) = 9.48; Prob > F = (Reject zero restrictions)

24 Table 12: Dependent variable (PLTU) (1) (2) l1ur 1.086*** (3.76) (0.64) l2ur *** 0.478* (-3.43) (1.66) l1pltu 0.748*** 0.593*** (23.29) (18.88) l2pltu (-0.72) (-1.34) l3pltu ** ** (2.25) (2.13) l4pltu 0.176*** 0.195*** (5.79) (6.80) gfc ** ** (-2.16) (-2.57) gfcl1ur *** *** (-2.98) (-3.52) gfcl2ur 1.692*** 1.823*** (3.78) (4.26) gfcl1pltu 0.131** (2.20) (1.29) gfcl2pltu (0.36) (0.86) gfcl3pltu * (-1.66) (-1.47) gfcl4pltu (-1.58) (-1.49) _cons ** (-2.12) (0.69) N

25 Summary of Panel Results An increase in the Unemployment Rate increases PLTU PLTU is persistent After the GFC, PLTU increased more with respect to UR After the GFC, the lagged effects of PLTU were same as before GFC. (Note: Results for G7 were very similar) Results similar for a logit function (Lim Dep Var) Results similar with GMM estimation.

26 Econometric Analysis using differences data Pooled data set of increases in long term unemployment for each country in each recession, 2001 Q2 to 2004 Q 2 and 2007 Q4 to 2010 Q3. Definitions: pipltu=% increase in PLTU ppltu=% point increase in PLTU pnltu=% increase in the nos. of LTU, (NLTU) Which is the correct metric to study??? epl=employment protection levels (average) ub_grr= Replacement rate (UB) (average)

27 Table 13: Cross Country Regressions (Two Recessions) pipltu pptpltu pnltu epl (-0.99) (0.11) (-1.04) ub_grr * (-1.51) (-1.75) (-1.21) pi_ur 1.165** 2.337*** (2.35) (4.01) GFC (-0.25) (-1.31) (-0.32) GFC_piur (-0.90) (1.18) GFC_epl (-0.54) (-1.65) (-0.69) GFC_ub_grr ** (1.24) (2.56) (0.64) ppt_ur 2.764** (2.49) GFC_pptur (-0.44) _cons (1.19) (0.87) (1.24) N R-sq: Eq 1=0.56 Eq 2=0.52 Eq 3=0.88 Structure Stable? Yes No (@10%) Yes

28 USA Percentage Increase in NLTU, Percentage Increase in LTU DEU EPL -100

29 Percentage Increase in PLTU, USA DEU TUR

30 Summary Results for Differences 1. Cannot reject zero restrictions on GFC (except at 10 % for pptpltu). Note: for panel we rejected zero restrictions. 2. The increase in UR is positively related to the dependent variables 3. EPL is not significant for any of the dependent variables. 4. The replacement rate is negatively associated with the dependent variables, but significant (@10 %) only for pptpltu (percentage point increase in PLTU). 5. Only for pptpltu is there a positive and significant link between the replacement rate for the GFC, but note that the zero restrictions on all the GFC terms can be rejected only at the 10 % level. 6. In general, we use the percentage increase in PLTU.

31 Summary Results for Differences In other words: Long term unemployment increases with the Unemployment Rate Employment Protection Legislation does not affect LTU Unemployment Benefits do not affect LTU.

32 The Great Recession: USA Figure 13: A Time Series of NLTU, PLTU and UR for the USA USA PLTU USA UR NLTU

33 The Great Recession: USA The jump in unemployment since 2007 has led to a massive increase in LTU. Compared to previous recessions, the increase in LTU is the biggest ever.

34 The Great Recession: USA Figure 15: Time Paths of the Proportion of Long Term Unemployment in Four Recessions

35 Figure 16: Four Cycles of Long Term Unemployment (PLTU), USA

36 Four Cycles of LTU This Figure 15 shows clearly that the early stages of the Great Recession produced the steepest percentage increase in the proportion of long term unemployment (PLTU). It also shows that PLTU increases very rapidly but comes down very slowly. In each of the four recessions considered, once PLTU has increased, it never returns to the previous minimum, although it nearly did in the 1990s.

37 Table 14: US Time Series Regressions, 1976 Q1-2010Q4 * Test Zero Restrictions on GFC and all interactive terms (Reject) ** Reject zero restrictions on UR (all lags) PLTU UR(t-1) (0.002) UR(t-2) * (0.004) UR(t-3) (0.005) UR(t-4) (0.003) PLTU(t-1) *** (0.094) PLTU(t-2) ** (0.115) PLTU(t-3) *** (0.113) PLTU(t-4) * (0.078) gfc (0.217) open *** (0.031) gfc*ur(t-1) (0.016) gfc*ur(t-2) (0.014) gfc*ur(t-3) (0.023) gfc*ur(t-4) *** (0.015) gfc*pltu(t-1) *** (0.383) gfc*pltu(t-2) ** (0.373) gfc*pltu(t-3) (0.400) gfc*pltu(t-4) (0.350) gfc*open (0.839) _cons *** N (0.010) 136 Adj R-squared

38 Summary of USA Analysis Our results suggest that PLTU increases with UR and that the higher the previous periods PLTU, the higher is the current PLTU (persistence). We find that the more open the US economy becomes the larger the proportion of long term unemployment. GFC significantly altered the relationship between PLTU and lagged UR and lagged PLTU.

39 Conclusions Countries that faced a significant financial crisis and collapse of housing bubble had large increases in UR and LTU. There was a big fall in employment in the (especially) construction and manufacturing industries. The financial collapse led to an increase in unemployment in the financial and business sector. Labour mobility of the unemployed is lower With a loss of wealth, fall in consumer spending, slows down recovery. Overall, increase in UR leads to an increase in PLTU for some time, and there is persistence in PLTU. This suggests we will have a long period of high unemployment and long term unemployment. The experience of LTU has serious social and economic consequences and policies should be introduced to help the long term unemployed. The Eurozone crisis and the austerity measures introduced in many countries is likely to lead to continuing unemployment and LTU.