Participation Explanation

Chart 1a. US Participation by decade

Chart 1b. US Participation since 2017

Source: Bureau of Labor Statistics, EFG calculations

As shown in Chart 1a, the ratio increased steadily after World War II, peaking in the 1990s before declining thereafter. There was a sharp step down following the global financial crisis in the 2010s and there has been another step down in the aftermath of Covid. Chart 1b shows how there was a bounce in the participation rate following the initial Covid shock but that since the middle of last year it has been remarkably stable at around 61.5%, nearly 2% below its pre-Covid peak in January 2020. This is surprising given the strength of the rebound in activity and widespread reports of labour market shortages driving wages higher.

Some analysts have adjusted the unemployment rate for this low participation rate, arguing that if it returned to pre-Covid levels the true unemployment rate would be much higher. In turn, this gives credence to the view that monetary policy will stay looser for longer. For example, if the participation rate were to rise to 63.0% - a little below the level in January 2020 – and the additional people sucked into the labour force were recorded as unemployed, that would correspond to an unemployment rate of 6.6%. This paints a very different picture of the state of the US labour market.

To assess if this adjustment is reasonable, it helps to understand who has left the labour force and why. An important characteristic in this regard relates to age. The working age population in the US – those aged 16 and over – has grown by about 2.1 million since late 2019.This reflects the combination of those people who have reached the age of 16 over the past couple of years less those who have sadly passed away. There are about 4.4 million fewer people employed than in late 2019 and about 1.9 million more people unemployed. In total then there are about 2.5 million fewer people participating in the labour force now than in late 2019.

A part of the decrease in the participation rate therefore reflects this decline in participants. Another part also reflects the natural growth in the working age population over the past couple of years. If, for example, we use as the denominator the working age population as it was in late 2019 then the participation rate increases by 0.5%. And another part relates to older people who have left the labour force – a net 1.2 million people aged between 16 and 54 left the labour force between 2019 and 2021 whereas an additional 3.4 million more people aged 55 and over decided to do so. This is evident in the much sharper decline in the participation rate for the two different age groups as shown in Chart 2.

Chart 2. Participation rate by age group

Source: Bureau of Labor Statistics, EFG calculations

Putting this all together leads us to the following conclusions:
 

• Of the new (young) entrants into the population of working age, a higher-than-normal proportion have chosen not to enter the labour force e.g. more have stayed on in education
• Many more people than normal who were approaching their mid-50s in 2019 have chosen to exit the labour force
• Similarly, a large number of people over the age of 55 have chosen to leave the labour force. This could be, for example, because of health-related concerns or simply because Covid has provided an opportunity to reflect on life and encouraged early retirement.

Given these demographic shifts, the shift lower in the participation rate may turn out to last longer than some commentators expect. If that is the case, then the unemployment rate as reported should be an accurate reflection of labour market tightness.