by Calculated Risk on 1/04/2012 12:54:00 PM

Earlier I posted some questions for next year: Ten Economic Questions for 2012. I'm trying to add some thoughts, and a few predictions for each question.

6) Unemployment Rate: What will the unemployment rate be in December 2012?

Last year, my prediction was for the unemployment rate to still be above 9% in December 2011. As of November, the unemployment rate had fallen to 8.6%. My guess was the participation rate would increase a little in 2011, however the participation rate continued to decline, and that pushed down the unemployment rate.

This is a reminder that forecasting the participation rate is critical in forecasting the unemployment rate.

First a few definitions from the BLS Glossary:

• Civilian noninstitutional population: Included are persons 16 years of age and older residing in the 50 States and the District of Columbia who are not inmates of institutions (for example, penal and mental facilities, homes for the aged), and who are not on active duty in the Armed Forces.

• Labor force: The labor force includes all persons classified as employed or unemployed in accordance with the definitions contained in this glossary.

• Labor force participation rate: The labor force as a percent of the civilian noninstitutional population.

Say the Civilian noninstitutional population was 1 million, and 650,000 participated in the labor force. And say 600,000 were employed leaving 50,000 unemployed. Then the labor force participation rate would be 65%, and the unemployment rate would be 50,000 / 650,000 equals 7.7%.

But if only 640,000 people participated in the labor force, then with the same level of employment (600,000), only 40,000 will be unemployed - and the unemployment rate would be 40,000 / 640,000 equals 6.3%.

So, with the same population and employment level, the participation rate makes a huge difference in the unemployment rate.

There are many reasons why people do not participate in the labor force. Some are in school, some are stay at home spouses, some are retired, and others may have given up looking for a job.

Even before the recent recession started, the participation rate was expected to decline because of the aging of the population. But, with the recession, the participation rate has plummeted.

Here is a graph showing the current unemployment rate (red) and the participation rate (blue).

Click on graph for larger image.

The unemployment rate is currently at 8.6%, and the Labor Force Participation Rate (blue) was at 64.0% in November.

Although I expect the participation rate to decline over the next couple of decades as the population ages, I think the participation rate will rise a little in 2012.

Below is a table showing the sensitivity of the unemployment rate to various levels of the participation rate and the job creation for 2012.

Unemployment Rate based on Jobs added and Participation Rate
		Participation Rate
		63.5%	64.0%	64.5%	65.0%
Jobs added per month (000s)	150	7.4%	8.2%	8.9%	9.6%
	200	7.0%	7.8%	8.5%	9.2%
	250	6.7%	7.4%	8.1%	8.8%

Although I'm still looking at GDP and employment for 2012, I think the unemployment rate will be mostly unchanged in 2012. A couple of predictions.
• The participation rate will rise slightly in 2012 and probably end the year in the 64.0% to 64.5% range.
• The unemployment rate will still be in the 8% to 9% range in December 2012.

Earlier:
• Question #7 for 2012: State and Local Governments
• Question #8 for 2012: Europe and the Euro
• Question #10 for 2012: Monetary Policy
• Question #9 for 2012: Inflation