How Low Will the Unemployment Rate Go?
Jonathan McCarthy, Simon Potter, and Ayşegül Şahin
April 02, 2012
A major theme of the posts in our labor market series has been that the outflows from unemployment, either into employment or out of the labor force, have been the primary determinant of unemployment rate dynamics in long expansions. The key to the importance of outflows is that within long expansions there have not been adverse shocks that lead to a burst of job losses. To illustrate the power of this mechanism, we presented simulations in a previous post that were based on the movements in the outflow and inflow rates in the previous three expansions. These simulated paths show the unemployment rate declining to a level well below current consensus predictions over the medium term.
In this post, we run these simulations to their natural conclusion to see what happens to the unemployment rate if the current expansion lasts as long as any of the three most recent expansions. Recall that in these simulations, we assume that the inflow and outflow rates change at the same pace as they did in the expansions following the 1981-82, 1990-91, and 2001 recessions starting at thirty months into the expansion (roughly the point where we are now in the current expansion) through the start of the next recession (see the Okun’s Law post in this series for the length of each expansion). The simulated unemployment paths based on the three different scenarios are shown in the chart below.
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