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The recent evolution of the natural rate of unemployment

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  • Mary Daly
  • Bart Hobijn
  • Rob Valletta

Abstract

The U.S. economy is recovering from the financial crisis and ensuing deep recession, but the unemployment rate has remained stubbornly high. Some have argued that the persistent elevation of unemployment relative to historical norms reflects the fact that the shocks that hit the economy were especially disruptive to labor markets and likely to have long lasting effects. If such structural factors are at work they would result in a higher underlying natural or nonaccelerating inflation rate of unemployment, implying that conventional monetary and fiscal policy should not be used in an attempt to return unemployment to its pre-recession levels. We investigate the hypothesis that the natural rate of unemployment has increased since the recession began, and if so, whether the underlying causes are transitory or persistent. We begin by reviewing a standard search and matching model of unemployment, which shows that two curves—the Beveridge curve (BC) and the Job Creation curve (JCC)—determine equilibrium unemployment. Using this framework, our joint theoretical and empirical exercise suggests that the natural rate of unemployment has in fact risen over the past several years, by an amount ranging from 0.6 to 1.9 percentage points. This increase implies a current natural rate in the range of 5.6 to 6.9 percent, with our preferred estimate at 6.25 percent. After examining evidence regarding the effects of labor market mismatch, extended unemployment benefits, and productivity growth, we conclude that only a small fraction of the recent increase in the natural rate is likely to persist beyond a five-year forecast horizon.

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Paper provided by Federal Reserve Bank of San Francisco in its series Working Paper Series with number 2011-05.

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Date of creation: 2011
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Handle: RePEc:fip:fedfwp:2011-05

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Keywords: Unemployment ; Labor market;

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Citations

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Cited by:
  1. John Schmitt, 2011. "Labor Market Policy in the Great Recession: Some Lessons from Denmark and Germany," CEPR Reports and Issue Briefs 2011-12, Center for Economic and Policy Research (CEPR).
  2. Andri Chassamboulli, 2010. "Labor-market Volatility in a Matching Model with Worker Heterogeneity and Endogenous Separations," University of Cyprus Working Papers in Economics 13-2010, University of Cyprus Department of Economics.
  3. Jesse Rothstein, 2011. "Unemployment Insurance and Job Search in the Great Recession," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 43(2 (Fall)), pages 143-213.
  4. Jinzhu Chen & Bharat Trehan & Prakash Kannan & Prakash Loungani, 2011. "New Evidenceon Cyclical and Structural Sources of Unemployment," IMF Working Papers 11/106, International Monetary Fund.

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