Low Unemployment: Old Dogs or New Tricks?

By Chiodo, Abbigail J.; Owyang, Michael T. | Regional Economist, October 2001 | Go to article overview

Low Unemployment: Old Dogs or New Tricks?


Chiodo, Abbigail J., Owyang, Michael T., Regional Economist


In March 2001, financial markets reeled at the news of an increase in the unemployment rate to 4.5 percent, its highest level in more than two years. Not long ago, such an unemployment rate would have been greeted with elation rather than alarm. Low unemployment rates, however, have become the norm following the longest period of sustained growth in the postwar period. Until recently, an unemployment rate below 6 percent was thought to be impossible without inducing rampant inflation.

In 1992, early in the most recent expansion, the unemployment rate averaged 7.5 percent. It has been below 6 percent since 1994 and below 5 percent since 1997. Despite predictions to the contrary, the inflation rate over the same period remained below 3.5 percent (with an average inflation rate of about 2.3 percent).

How did this so-called New Economy continually reduce unemployment without succumbing to inflationary pressures? The most common conjecture was that the sustainable level of unemployment had fallen because the integration of computers and other technologies had increased worker productivity. Improvements in technology, once embodied, can increase the productivity of workers, making them more valuable to firms, thus increasing the demand for labor.

A second theory, which has received much less attention, is that demographic changes would have led to a lower unemployment rate and higher productivity growth even without the new technologies. In particular, the aging of the baby-boom generation may have meant that: (1) relatively more workers are matched to the jobs where they are most productive, and (2) relatively fewer workers are at the beginning of their work lives, when spells of unemployment are most common. The resulting increase in job stability would lower the unemployment rate for the entire economy.

This article compares the extent to which these factors-technology and demographics-have contributed to the lower unemployment rate.

Embodied Technology: New Tricks

Computers were around long before anyone began talking about the New Economy. Why, then, did they take so long to have an effect on productivity and unemployment? The answer revolves around the diffusion of technology, especially to nonmanagement workers. Early studies of the effects of computer investment found little or no correlation between information technology investment and productivity.1 More recent studies, however, indicate that computers and information technology may indeed be affecting the productivity of nonmanagement workers.2 Technology, it seems, requires time for workers to incorporate it into their tasks; productivity only rises when new technology is fully embodied.3 A study last year by economists Erik Brynjolfsson and Lorin Hitt contends that technology's value is mostly in its "ability to enable complementary organizational investments, such as business processes and work practices." These investments, they suggest, lead to an increase in productivity by decreasing costs and allowing firms to increase output. For example, the use of e-mail can decrease the cost of both inter- and intra-office communication. However, to have an effect on aggregate productivity, e-mail use must be widespread, filtering down from those specializing in information technology to secretaries, analysts and other nonmanagement personnel.

Despite this conventional wisdom, technology is not necessarily the benefactor it might appear to be. For example, in a 1999 study, economists Susanto Basu, John Fernald and Miles Kimball found that an improvement in a firm's technology tends to reduce employment in the first year and that employment may rise only two years later. In addition, new technology creates new problems as firms either have to replace their current workers with workers who are trained to use the new technology or they have to retrain their existing workers. It is possible, then, that as new technology is introduced, workers are replaced and productivity falls because workers and firms may need to learn how to use the new technology. …

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