Is Unemployment Undercounted?

As we saw in our last video, to be defined as unemployed, a person has to be without a job and they must have actively looked for a job in the last four weeks.

Now what this means is that if a person without a job gives up looking for work, then they are no longer counted as unemployed. Every now and then someone discovers this definition, and they call the unemployment rate a fraud, a big lie, even a conspiracy. These melodramatic claims are often made for political reasons, when someone wants to argue that the real unemployment rate is higher than the official unemployment rate.

Do these claims hold up? Well, there is nothing sinister about the official definition of unemployment. If someone says they want a job, but they aren't actively looking for work, it's hard to count them as unemployed. For example, recently the boxer, Floyd Mayweather, he retired. Is he now unemployed? It seems he doesn't want a job. But Floyd also says that if he was paid enough he'd fight again.

[Floyd] If I came back. Of course, it would have to be a nine-figure payday . . .

[Alex] But lots of retired people -- they'd take a job if they were offered enough money. So, are all retired people unemployed? Maybe, but that wouldn't be a very useful definition of unemployment. So, it’s quite reasonable to define someone as unemployed only if they don't have a job and they’re actively seeking a job. At the same time, there is nothing sacrosanct about the official definition. It's quite legitimate to look at other measures of the state of the workforce, such as wage growth or labor force participation rate. We'll discuss those in future videos.

It's even perfectly legitimate to look at other ways of defining unemployment. In fact, the Bureau of Labor Statistics defines and measures six unemployment rates, called U1 through U6. The official unemployment rate, the one we have defined, is U3. U1 and U2 are more stringent definitions of unemployment. U1, for example, counts someone as unemployed only if they have been out of work for 15 weeks or longer. U4, U5 and U6 are less stringent definitions. For example, the BLS defines “discouraged workers” as people who say they want a job, but although they haven't looked for work in the past four weeks, they have looked in the past year. If we add these discouraged workers to the unemployed workers, we can define a new unemployment rate: U4.

Here it is. Including discouraged workers increases the unemployment rate slightly, but the two rates move together very closely. Indeed, as a general rule, most of the alternative definitions of unemployment track each other closely. So, if things are getting worse by one measure, they are usually getting worse by all measures. The same is true when things are getting better. The U4, U5, and U6 definitions of unemployment -- they do give a higher number for the unemployment rate than does the official rate. But they always give a higher number.

So, if things are worse today by the alternative measure, then they were also worse in the past, in whatever golden age you want to compare with. Then using any definition consistently -- that's okay. But it’s not okay to use the official unemployment rate when your favorite president is in power and then use an alternative, higher rate when your least favorite president is in power.

The bottom line is that even if you think that the official definition of unemployment is too strict, and you think that the real unemployment rate is higher than the official rate -- even so, the official unemployment rate is still a good indicator of the state of the labor market, and whether things are getting better or getting worse.

In the next video, we’re going to take a look at three different types, or causes, of unemployment: frictional, structural and cyclical unemployment.