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Decimal Digest
30 Dec 2016

When Politics Trumps Economics

Since the 2008 recession, the policy response in the US has been to provide relief to stock and labor markets in form of Quantitative Easing and increasing of duration of unemployment benefits from 6 to 24 months.

Research by the Federal Reserve estimates that without the extension of the unemployment benefits the long-term unemployment would be 2.29% lower, and the unemployment duration would be 1.3 weeks lower which incidentally peaked at 40.5 weeks in 2011.

After the great recession, the occupational structure underwent change by moving to a higher skill set requirement level across all occupations. Hobijin (2012) has posited that the composition of new jobs postings across occupations and industries has slowed the number of successful matches in the recovery period.

In service sector switching to other occupation means a certain amount of wage loss, and also different occupations have different job finding rates. The job finding rate becomes very important, as earlier the availability of manufacturing jobs meant that occupation specific skills were less of a factor in creating frictional unemployment, as the skills were easily transferrable. The change in the occupational structure also means change in job finding rates for occupations which tends to increase duration of unemployment. Thus, the job finding rates for some occupations will be lower than others.

The higher the duration of unemployment more is the loss of skills, and less employable the worker becomes to the employer further lowering his job finding rate.

The policy response of increasing unemployment benefits lowered the job finding rate, as it lowered the incentive for people to switch from occupation which had low job finding rate. The solution to it should have been retraining of workforce for the new occupational structure that prevailed post the great recession. Instead scarce resources were used up in providing higher unemployment benefits as a factor to stabilize demand in the economy in an unsustainable manner. This has resulted in the significant increase in underemployment in the economy as once the duration of unemployment for a person becomes high, he becomes an undesirable candidate in the job market forcing him to take any job possible. The other aspect was in jobs that require training, the Obamacare plan increased cost for employers to hire thereby forcing them to employ people part time increasing the duration of acquisition of skills for the job.

The Rise in U-6 measure of unemployment (total unemployed including marginally attached workers and part time employed) to 17.5% post-recession and its current high level of 9.3% can be attributed to the above1.

The problem of the long term unemployed and part time workers is a structural one which can be solved by retraining of the workforce and restructuring or repealing Obamacare as Trump had promised to do. Any further monetary and fiscal policy stimulus by Trump without the structural fix of retraining the workforce will create inflationary pressure rather than solving the problem.

Thereby, Mr Trump’s first step towards clearing the swamp should be to target retraining for occupations with low finding rates, achieving maximum bang for the buck.



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