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The ins and outs of unemployment in the long run: unemployment flows and the natural rate

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  • Murat Tasci

Abstract

This paper proposes an empirical method for estimating a long-run trend for the unemployment rate that is grounded in the modern theory of unemployment. I write down an unobserved-components model and identify the cyclical and trend components of the underlying unemployment flows, which in turn imply a timevarying estimate of the unemployment trend, the natural rate. I identify a sharp decline in the outflow rate—the job finding rate—since 2000, which was partly offset by the secular decline in the inflow rate—the separation rate—since the 1980s, implying a relatively stable natural rate, currently at 6 percent. Numerical examples show that slower labor reallocation, along with the weak output growth, explains most of the persistence in unemployment since the Great Recession. ; Contrary to the business-cycle movements of the unemployment rate, a significant fraction of the low-frequency variation can be accounted for by changes in the trend of the inflows, especially prior to 1985. Finally, I highlight several desirable features of this natural rate concept that makes it a better measure than traditional counterparts. These include statistical precision, the significance of required revisions to past estimates with subsequent data additions, policy relevance and its tight link with the theory.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 1224.

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Date of creation: 2012
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Handle: RePEc:fip:fedcwp:1224

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Keywords: Unemployment ; Business cycles;

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  1. Jesse Rothstein, 2012. "The Labor Market Four Years into the Crisis: Assessing Structural Explanations," Industrial and Labor Relations Review, ILR Review, Cornell University, ILR School, vol. 65(3), pages 437-500, July.
  2. Hertweck, Matthias Sebastian & Sigrist, Oliver, 2013. "The Aggregate Effects of the Hartz Reforms in Germany," Annual Conference 2013 (Duesseldorf): Competition Policy and Regulation in a Global Economic Order 79942, Verein für Socialpolitik / German Economic Association.
  3. Christopher A. Pissarides, 2000. "Equilibrium Unemployment Theory, 2nd Edition," MIT Press Books, The MIT Press, The MIT Press, edition 1, volume 1, number 0262161877, December.
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  5. Regis Barnichon & Christopher J. Nekarda, 2013. "The ins and outs of forecasting unemployment: Using labor force flows to forecast the labor market," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2013-19, Board of Governors of the Federal Reserve System (U.S.).
  6. Abowd, John M & Zellner, Arnold, 1985. "Estimating Gross Labor-Force Flows," Journal of Business & Economic Statistics, American Statistical Association, American Statistical Association, vol. 3(3), pages 254-83, June.
  7. Gordon, Robert J, 1996. "The Time-varying NAIRU and its Implications for Economic Policy," CEPR Discussion Papers, C.E.P.R. Discussion Papers 1492, C.E.P.R. Discussion Papers.
  8. Darby, Michael R & Haltiwanger, John C & Plant, Mark W, 1985. "Unemployment Rate Dynamics and Persistent Unemployment under Rational Expectations," American Economic Review, American Economic Association, American Economic Association, vol. 75(4), pages 614-37, September.
  9. Clark, Peter K, 1987. "The Cyclical Component of U.S. Economic Activity," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 102(4), pages 797-814, November.
  10. Edmund S. Phelps, 1968. "Money-Wage Dynamics and Labor-Market Equilibrium," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 76, pages 678.
  11. Mary C. Daly & Bart Hobijn & Aysegül Sahin & Robert G. Valletta, 2012. "A Search and Matching Approach to Labor Markets: Did the Natural Rate of Unemployment Rise?," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 26(3), pages 3-26, Summer.
  12. Richard Rogerson, 1997. "Theory Ahead of Language in the Economics of Unemployment," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 11(1), pages 73-92, Winter.
  13. Regis Barnichon & Andrew Figura, 2010. "What drives movements in the unemployment rate? a decomposition of the Beveridge curve," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2010-48, Board of Governors of the Federal Reserve System (U.S.).
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Cited by:
  1. Mark E Schweitzer & Murat Tasci, 2013. "What constitutes substantial employment gains in today’s labor market?," Economic Commentary, Federal Reserve Bank of Cleveland, Federal Reserve Bank of Cleveland, issue Jun.
  2. Christopher L. Foote & Richard W. Ryan, 2014. "Labor-Market Polarization Over the Business Cycle," NBER Chapters, in: NBER Macroeconomics Annual 2014, Volume 29 National Bureau of Economic Research, Inc.
  3. Gonul Sengul & Murat Tasci, 2014. "Unemployment Flows, Participation and the Natural Rate for Turkey," Koç University-TUSIAD Economic Research Forum Working Papers, Koc University-TUSIAD Economic Research Forum 1404, Koc University-TUSIAD Economic Research Forum.

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