The potential for labor force participation has been saved
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Participation in the labor force declined substantially after the financial market crash in 2008. Demographics accounted for about half of this decline, but even adjusted for demographics, labor force participation has fallen significantly. In a way, that’s good news. It suggests that there are plenty of unused resources to be put to work as the US recovery finally begins to pick up steam.
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US labor force participation has been remarkably volatile over the past 25 years. Figure 1 shows that the mid-1990s were marked by a surprising rise in labor force participation. Tight labor markets drew people into the workforce, and welfare reform pushed others to look for jobs. The participation rate rose to over 67 percent in 1997 and remained at about that level until the 2001 recession. It then declined by about 1 percent before stabilizing again as the economy recovered during the mid-2000s. The Great Recession, however, saw a steep decline in the labor force participation rate, which has continued through the current recovery.
The recession was not the only reason for this decline. The earliest Baby Boomers—the leading edge of a large increase in retirements—turned 62 in 2008. As the portion of the population over 60 years old started to increase, the overall labor force participation rate likely would have declined, even if labor markets had remained healthy. However, this does not account for all of the fall in the labor force. The blue line in figure 1 shows how much the labor force would have declined if participation rates for each cohort remained the same. About half of the 2.7 percent decline in the participation rate was because of demographics—the other half was because people just left the labor force.
Both men and women left the labor force after the 2008 financial crisis. Figure 2 shows labor force participation rates by gender. Labor force participation among women peaked in the 1990s at around 60 percent. After the recession, the female labor force participation rate fell by about 2 percent. The participation rate for men has been declining for years, but the decline steepened after 2008. Men’s labor force participation fell 3 percent after the financial crisis, but it remains about 10 percentage points above the participation rate for women.
There is another twist to this story, however. The participation rate for older Americans has been rising, despite (or perhaps because of) the financial crisis and recession. Figure 3 shows that the growth of labor force participation by older people continued through the recession and slow recovery, even as participation by younger people fell. Older people may stay in the labor force because they are healthier. They may also want to keep working because they are financially unable to retire. Whatever the cause, a larger share of the older population is staying in the labor force.
This raises some difficult questions in forecasting the labor market. Several trends are offsetting each other:
I calculated two projections of the labor force through 2020 based on different assumptions. One projection assumes that the younger cohorts return to their 2002–2007 average participation rates. The other projection assumes that younger participation rates remain at their current low levels. In both cases, I assumed that participation rates for people aged 60 and over remain at 2013 levels.
Figure 4 compares the two projections. The difference is quite large. If younger cohorts recover to their 2002–2007 participation rates, the US labor force will have over 7 million more workers than if participation rates by cohort remain at current levels. For comparison, calculations from the May 2014 employment release suggest a shortfall of around 1.2 million jobs compared to full employment.1 But that’s not the real level of slack. If participation by cohort is to return to its 2002–2007 level, the economy would need to absorb an additional 7 million workers beyond the 1.2 currently identified as unemployed.
There is no reason to believe that younger cohorts are any less willing to work than previous generations. The experience of the 1990s indicates that when jobs are on offer, people will respond. That argues for a rise in participation rates once the economy takes off.