Nature studies

Why 22% of Spaniards won’t get a job even if their economy booms

Modern States
Modern States

What’s so natural about employment, anyway?

The European Commission’s autumn economic forecasts raise an interesting wrinkle in how we think about the health of an economy. Greece and Spain, both facing recessions, have unemployment rates of 24% and 25%, respectively—nearly a quarter of each country’s work force isn’t doing anything. Unemployment like that is one sign of how Europe’s economy is running below capacity—that is, if all those people were working, Europeans would have made lots more stuff, performed more services, and earned more money.

That isn’t to say an economy working at full capacity would have full employment. There’s usually some percentage of workers training or changing jobs. But economists also find that markets have a “natural” rate of unemployment. This is where, broadly speaking, the supply of workers matches the jobs available for them. If there’s a shortage of workers, wages go up, forcing central bankers to tighten interest rates to combat inflation—in effect, increasing unemployment. In the US, this natural rate is estimated by US economists to be around 5%-6% (paywall). In Greece it is 15%, and in Spain it is 22%. (Data for the whole EU are here; select “Population and employment”, then “unemployment”, then “NAWRU”.)

This means that Greece, where the gap between actual and natural unemployment is bigger, has more scope to create jobs than Spain, which could send only a small percentage of its citizens back to work. The difference is based on the composition of the two countries’ labor markets. Spain went through a huge housing bubble at the end of the last decade, so it has a lot of people with skills suited to a real-estate sector that won’t return to its artificial heights. While Greece is no economic dynamo, its woes didn’t result from over-investment in any particular sector, so it is hypothetically primed to see more of its citizens go back to work.

Spain and Greece, you’ll be shocked to learn, have unusually high natural rates of unemployment, more than twice the euro zone’s average of 10.2%. The gap suggests that the countries need to do more work reforming their labor markets (ranging from deregulation to investing in education and training) to bring back economic growth. But the natural unemployment rate is a useful indicator also because it shows that economies with superficially similar problems, like Spain and Greece, may need different remedies.

Even though it is clear that both economies have a lot of reform work to do, however, they might take a little comfort in the fact that not everyone agrees with the European Commission’s estimates. It argues that the United States’ natural rate of unemployment is 8%, two percentage points higher than even the most pessimistic American measures. The commission sees a real estate bubble employment hangover in the US, too, but US economists argue that this is over-stated, pointing out that job losses in the US were spread widely across sectors.

However, if the commission’s forecasts are wrong, that could spell broader problems. Its big push toward fiscal unity includes a fiscal compact that restricts member governments’ spending with a formula determined partly by these measures of economic potential.

We may have answers soon. By the commission’s estimates, unemployment in the US is at 8.4% (the official US rate is 7.9%), just above what it think is the natural rate. Seeing whether or not unemployment in America can drop past the EU’s theoretical minimum will be a lovely natural experiment in natural unemployment.

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