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Unemployment Rate as a Lagging Indicator and Understated

Apr 08, 2009 | By: Mr_Blue | Comments | Permalink | Tags: unemployment rate

This would be a good Asked & Answer question but it is very important to understand and warrants the prominence on the front page. Economists consider the unemployment rate as a lagging indicator. A “lagging” indicator is not a bad thing - the term relates to timing of the change in the indicator relative to changes in the whole economy. But the “official” unemployment rate, the one reported in the media, often understates the true magnitude of unemployment. Currently, the “official” unemployment rate is 8.5%.

Economists use economic indicators to measure the health or performance of the economy currently and/or in the future. Gross domestic product, existing home sales, consumer confidence and unemployment rate are just a few of the economic indicators that economists review. There are three categories of indicators:

1) Coincident indicators - indicators that move/change at the same time the economy moves/changes. Examples: Gross domestic product and business payrolls.

2) Leading indicators - indicators that move/change before the economy changes. Examples: Leading Economic Indicator Index (LEI), money supply, factor orders for consumer goods

3) Lagging indicators - indicators that do not move/change until a few quarters after the economy does. Examples: unemployment rate and changes in consumer price index.

The Unemployment Rate, as a lagging indicator, will not change or move until after the economy changes. This lag may cause issues in other ways. Reports of unemployment rate in the media often have a strange reinforcing quality to it for us, as consumers, particularly in bad economic times. We hear or read about bad economic reports, such as unemployment rate, and that may have an immediate impact on our spending habits (which is not necessarily a bad thing).

The important thing to remember is that reports of unemployment rates are not indicative of where the economy currently is or where it is heading. I know that all of this is meaningless if you are currently unemployed (hang in there and good luck). There are other economic indicators that may be showing a better future.

There is a flaw with the “official” unemployment rate as typically reported in the media. The “official” unemployment rate understates the problem. The “official” rate does not count people who have given up on looking for work; those are “marginally attached to workforce” or those who want full-time work but are working part-time. This broader unemployment rate is currently at 15.6% vs. the official rate of 8.5%. Big difference.