Employment Growth: Cyclical Movements or Structural Change?

The Federal Reserve, in its policy analysis, must carefully weigh incoming data and evaluate likely future outcomes before determining how best to obtain its twin goals of employment growing at potential and price stability. It is tempting to regard high or rising unemployment as a sign of a weak economy. And, normally, a weak economy is one with little inflationary pressure and, therefore, room for expansionary monetary policy to stimulate growth. But unemployment is influenced by more than simply aggregate conditions. In a dynamic economy that responds to changing opportunities, some industries are shrinking while others are growing. Labor must flow from declining industries to expanding ones. This adjustment takes time. It takes time for employees in declining sectors to learn about new opportunities in other industries, acquire necessary skills, apply for job openings, and potentially relocate. And during this period of adjustment, the unemployment rate rises as waning industries lay off workers. Thus, the unemployment rate may increase or decrease, even though the aggregate state of the economy remains stable, simply because the labor market adjusts to shifting patterns of production.