Unemployment: forgotten, but not gone

My opinion piece in yesterday’s Fin was about unemployment. It’s over the fold.

Unemployment hasn’t been frontpage news for some years now. The main labour market story in the last couple of years has been the emergence, for the first time since the 1980s, or significant labour shortages for some classes of skilled worker.

Despite these shortages, the number of people who are unemployed or underemployed remains very high. The official rate is above 5 per cent, but when various forms of hidden unemployment are taken into account, the true rate exceeds 10 per cent. It seems to have been accepted that a headline rate of unemployment of 5 per cent is the best we can possibly do, though such a rate would have been considered disastrous in the 1950s and 1960s.

But a run of disappointing statistics in recent months should remind us how fragile even that rate might be. Employment has been flat for about six months, and the unemployment rate is rising again. A prolonged slowdown could easily push the rate back up to 7 or 8 per cent, wiping out all the progress made since the Howard government was elected. A severe recession could push the rate all the way back up into double digits.

A characteristic feature of labour markets is that unemployment rates spike rapidly upwards, but decline only very gradually as the economy recovers. When the last boom ended in 1989, the unemployment rate had inched downwards to around 5.5 per cent over six years. It took less than three years to double to 11 per cent during the ‘recession we had to have’.

Although the economy stopped contracting in 1991, unemployment did not even begin to decline until 1994. After a reasonably promising start to recovery, the labour market performed poorly. The reduction in unemployment was significantly slower in the 1990s expansion than in that of the 1980s. Between 1995 and 2003, the headline unemployment rate dropped by only two percentage points, from 8 per cent to 6 per cent.

Fortunately, even slow improvements mount up if they are given long enough to work, and it’s been fifteen years since the end of the last recession. Most discussion of economic policy seems to be based on the premise that Australia is no longer subject to the cycle of boom and recession.

It’s not that hard to identify the crucial difference between the current expansion and previous cycles. In the past, when the economy expanded, it usually wasn’t long before a balance-of-payments deficit emerged. Governments responded by tightening fiscal policy or raising interest rates, and external balance was restored, at the cost of a domestic slowdown. If the tightening was overdone, as often happened, the slowdown turned into a recession.

By this stage in the expansion, on past experience, we should have expected a blowout in the current account deficit, followed by a contractionary policy response and an upward ratchet in the unemployment rate. This time around, the current account deficit has behaved much as usual. If anything, the blowout has been even bigger this time, though its magnitude has been masked by favourable shifts in the terms of trade.

The difference has been in the policy response. Governments and central banks now adopt the ‘consenting adults’ view under which the current account deficit (and its mirror image, the gap between national savings and national investment) is the aggregate of the individual decisions of households and corporation.The current account deficit is merely the flipside of negative household savings and massive investment in residential housing. So, rather than adopting a contractionary policy, the Reserve Bank has assumed that borrowers and lenders are responsible for their own choices.

The ‘consenting adults’ view may well be right, but if the growing imbalances in the Australian economy are not resolved by policy, they will be resolved by market forces. Perhaps this will go smoothly, but we have little recent experience to go on.

If we do experience a recession, and a resurgence of unemployment, the long expansion of the last fifteen years will look, in retrospect, like a wasted opportunity to achieve permanent reductions in unemployment.

The government’s answer, presumably, will be that its WorkChoices reforms will provide the flexibility that has long been missing in Australian labour markets. Yet WorkChoices seems to be at least as much about settling scores with unions as about improving the operations of labour markets. What has been missing for the last decade, and more, is any acceptance of a government responsibility to achieve full employment and any sustained focus on that goal.

John Quiggin is an ARC Federation Fellow in Economics and Political Science at the University of Queensland.

78 thoughts on “Unemployment: forgotten, but not gone

  1. Ernestine,

    I am all for puzzles. It is just something in the way you frame things that often makes me miss your point. Often I can’t even find the contradiction that you are hinting at. In the example in this thread I am still clueless as to what you were getting at. Something about brushing other peoples teeth to be sure, however there are obviously a few leaps of logic that are obvious to you but completely obscure to me. So whilst I appreciate any help in seeing flaws in theories the help to date has not helped much.

    I also try and make others see the contradictions in their position. It seem to haver very mixed results.

    Regards,
    Terje.

  2. Terje,

    On an earlier thread you volunteered the information that you are an engineer. On a more recent thread you volunteered the information that you are a paid-up member of the political arm of some libertarian party.

    I suppose your last revelation solves a puzzle.

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