Academic journal article Economic Perspectives

Can Sectoral Reallocation Explain the Jobless Recovery?

Academic journal article Economic Perspectives

Can Sectoral Reallocation Explain the Jobless Recovery?

Article excerpt

Introduction and summary

Recent employment trends are puzzling. (1) Historically, the number of nonfarm jobs has grown rapidly following the end of a recession. For instance, during each of the five recessions of the 1960s, 1970s, and 1980s, it took less than four months for employment to exceed its level at the end of the recession ("the trough"). On average, 26 months into those recoveries, employment was 5.4 percent higher than at the end of the recession and 3.6 percent higher than at the previous expansion's peak.

Employment growth was much weaker after the recession of the early 1990s, when it took 14 months for the number of jobs to return to the level reached at the trough and an additional nine months before it exceeded the previous expansion's peak. Even 26 months into that recovery, employment was only 1.8 percent above the trough. Moreover, job growth has been even more disappointing since the most recent recession. As of January 2004, 26 months into this recovery, nonfarm payrolls are actually 0.5 percent below those of November 2001, the date the National Bureau of Economic Research says the recession ended.

Many analysts have attributed this surprisingly weak employment performance to an increased need for sectoral reallocation. According to this theory, an accelerating pace of structural change has greatly increased the number of workers forced by job loss to make major career transitions. Because securing a new job in a different economic sector often takes a significant amount of time, the theorized increase in the need for sectoral reallocation is thought to have temporarily raised unemployment and restrained employment growth.

It is important to note that sectoral reallocation is not new, nor in the long run is it a bad thing. In a well-functioning economy, the growth in international trade, shifts in product demand, and productivity growth that varies across sectors all imply that resources constantly need to be reallocated from one part of the economy to another. Recent research shows that such reallocation is an important contributor to overall productivity growth and, thus, to rising living standards. (2) Consequently, in the long run, reallocating workers to their most productive use greatly benefits the economy.

However, in the short run, reallocation is costly. (3) Workers displaced from contracting sectors of the economy need to spend time searching for new jobs. This can take substantial time and resources, especially if workers' old skills do not match those demanded by firms in expanding sectors. Thus, an increased need for sectoral reallocation may temporarily increase the economy's natural rate of unemployment and lower its rate of employment growth.

The notion that the U.S. is currently experiencing an increased need for sectoral reallocation is at least superficially consistent with a number of recent developments. In particular, certain segments of the economy, most notably manufacturing, have seen particularly large declines in employment. (4) In addition, there has also been much discussion of possible increases in "outsourcing," "offshoring," and other employment practices that could increase worker displacement. Especially prominent have been claims, largely undocumented to date, that, because of the development of the Internet, workers in many service and technical occupations that were formerly relatively isolated from international competition are now being replaced by workers in countries such as India or China.

It is not clear, however, that the need for sectoral labor reallocation is especially great right now. As we have noted, reallocation is always occurring in a dynamic economy, and while it is true that manufacturing has been hit hard recently, this sector is always severely impacted by recession. (5) Moreover, the loss of jobs to foreign competition is hardly new. There has been a long history of concern over job losses to Japan, Korea, Mexico, and a host of other countries, even while employment has continued to expand. …

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