Avoiding recessions and Australian long-term unemployment

While the unemployment rate has fallen significantly in the last several years, it is still around 7 per cent at the beginning of 2000 and remains very high relative to the experience from 1950 to the mid-1970s. Nearly 200,000 of today’s unemployed have been in that state for 12 months or more, and this group is known as the long-term unemployed (LTU). The duration of unemployment is a fundamental issue for policy and reduction in the numbers of those experiencing long term unemployment is a continuing policy priority. There are two reasons for governments to be concerned about long-term unemployment. It is well documented that members of the group are some of the least advantaged in the labour market, a group disproportionately made up of those with low formal skills and education. Moreover, those with long term unemployment are by definition not accumulating labour market experience, one of the most important determinants of wage income. Long-term unemployment is also fundamental to policy due to its impact on macroeconomic efficiency. A labour supply pool with a large proportion of long-term unemployed will be characterised by structural mismatch. Long-term unemployed workers will be considered to be irrelevant in firms’ hiring decisions so that unemployment is higher than it would otherwise be. This has significant implications for the budget. In addition, structural mismatch decreases the potential for an economy to recover quickly from recession. As employers will be bargaining over a smaller pool of ‘relevant’ labour, wage inflation is more likely, even when unemployment is relatively high. This paper examines the relationship between recessions and the size and persistence of long-term unemployment. The level of unemployment exhibits a substantial and rapid rise at the onset of recession. Since the late 1970s the number of people unemployed for more than 12 months has approximately trebled. Using a well-established statistical method, this paper considers different outcomes for long-term unemployment as if the major recessions of 1983 and 1991 had been moderated. The results should leave us in not doubt that just a few poor years of economic growth have very significant medium-term implications for long-term unemployment. They highlight strongly the policy importance of anticipating possible future poor employment growth, and imply that there are considerable potential benefits to be had if governments are able to pre-empt downturns in economic activity. The findings are apposite to the current debate over macroeconomic setting stimulated by recent rises in interest rates. The critical role of monetary policy in slowing growth should be recognised as having significant potential implications for future levels of long-term unemployment. There are obvious equity, budgetary and economic performance costs associated with this.