This chapter examines the impact of regional skills mismatches and housing market hurdles on the national equilibrium rate of unemployment. The extreme regional disparities created by the crisis are associated with a 1 to 1¾ percentage points higher national equilibrium unemployment rate.

Abstract

This chapter examines the impact of regional skills mismatches and housing market hurdles on the national equilibrium rate of unemployment. The extreme regional disparities created by the crisis are associated with a 1 to 1¾ percentage points higher national equilibrium unemployment rate.

This chapter examines the impact of regional skills mismatches and housing market hurdles on the national equilibrium rate of unemployment. The extreme regional disparities created by the crisis are associated with a 1 to 1¾ percentage points higher national equilibrium unemployment rate.

A. Introduction

1. The financial crisis has hit the U.S. labor market strongly, creating large regional disparities and unequally affecting different segments of the labor market. Not only have unemployment rates reached levels near post-World War peaks, but unemployment duration is at historic highs.3 The crisis affected some groups more severely, including men, youth, and low-skilled individuals and hit some sectors particularly hard, especially manufacturing, construction, and parts of the financial industry.

2. Such a high-magnitude shock—indeed the worst recession since the Great Depression—could have created structural labor market problems. In particular, some economic activities and states were much more affected by the crisis than others. The ability of the labor market to clear under these circumstances would depend on several factors, including: (i) the speed with which worker skills can be re-molded to changed demands; (ii) the flexibility of wages across the country and sectors; and (iii) the capital losses and credit constraints individuals would face if selling their houses or walking away from their underwater mortgages to migrate to more prosperous areas. Also, the monumental crisis has triggered decisive responses from the government, including increases in the generosity of unemployment insurance. While appropriate to cushion the recession, generous unemployment insurance benefits curb job-search intensity, thus cementing the upward pressures on equilibrium unemployment now and going forward if labor market slack is persistent.

3. This chapter shows that the crisis has created extreme disparities across states in terms of skill mismatches and housing market performance, which could have raised the national equilibrium unemployment rate by 1 to 1¾ percentage points. The analysis shows that the collapse in the housing market and the decline in the production of certain goods and services had a distinct regional pattern. More worrisome, we find that skill mismatches have been more acute in states with depressed housing markets—an interaction that is associated with even higher unemployment rates. Using a panel econometric model for the 50 states and the District of Columbia (controlling for the cyclical relationship between the unemployment rate, mismatches between supply and demand of labor skills, and housing market conditions) we find that the impact of skill mismatches and housing hurdles might have raised the national equilibrium rate of unemployment by 1 to 1¾ percentage points since 2007, with large regional variations in unemployment performance. However, our analysis does not directly imply that this structural increase in unemployment rates will persist; that depends on, among other factors, how quickly the skill mismatches and housing stress normalize.

B. Methodology

4. We construct an index for skill mismatches across the 50 states and the District of Columbia. The index captures how shrinking industries contribute to the swelling of a particular skill set among the unemployed, which may not necessarily be absorbed by expanding industries. The skill-mismatch index (SMI), following Peters (2000), measures the disparity between demand and supply at each skill level (according to educational attainment) in a state, with higher readings indicating greater mismatches.

5. Skill mismatches have risen sharply during this recession, with considerable heterogeneity across states (Figures 1 and 2). Mismatches are now near or at peak historical levels in numerous states, mostly the ones with a large manufacturing sector. States that had specific characteristics (e.g., Delaware—a financial hub; Hawaii—highly reliant on tourism; and Michigan—an auto hub) experienced disproportionate increases in skill mismatches.

Figure 1.
Figure 1.

Increase in Skill Mismatch Index Since Onset of Recession

(in percent)

Citation: IMF Staff Country Reports 2010, 248; 10.5089/9781455206759.002.A001

Sources: Haver Analytics, U.S. Bureau of Labor Statistics, U.S. Census Bureau, and authors’ calculations.Notes: 1st quartile [-11.1,5.7], 2nd quartile [6.3,11.6], 3rd quartile [12.3,16.9], 4th quartile [17.2,29.4]. Calculated as the percent change from 2007–2009. Annual levels are the simple average of 12 months.
Figure 2.
Figure 2.

Labor and Housing Market Dispersion

Citation: IMF Staff Country Reports 2010, 248; 10.5089/9781455206759.002.A001

Sources: Haver Analytics, Mortgage Bankers Association, U.S. Bureau of Labor Statistics, U.S. Census Bureau, U.S. Federal Housing Finance Agency House Price Index, and authors' calculations.1/ Weighted average annual percentage change in Skill Mismatch Index weighted by size of state labor force.

6. The largest housing crash since the Great Depression has added to labor market frictions. The FHFA house-price index has declined by an average of 15 percent from its peak in 2007, with some states experiencing much larger declines (notably California, Florida and Nevada with declines of 35–50 percent), resulting in large disparities in the share of underwater mortgages.4 5 Foreclosure rates also suggest large dispersion in housing market conditions, with the national average at around 4½ percent, and foreclosure rates ranging from around 1 percent in Alaska and Wyoming to double-digit levels in Florida and Nevada (Figure 3).6 Slower inter-state migration, likely related to the housing crash, seem to have crimped the usual labor market adjustment mechanism in the United States (see Frey 2009 and Estevão and Tsounta, 2010). Even more worrisome, states that face housing market hurdles tend to also face disproportionately large increases in skills mismatches.

Figure 3.
Figure 3.

Change in Foreclosure Rates, 2005–2009

(in percentage points)

Citation: IMF Staff Country Reports 2010, 248; 10.5089/9781455206759.002.A001

Sources: Mortgage Bankers Association, and authors’ calculations.Notes: 1st quartile [0.6,0.96], 2nd quartile [0.97,1.56], 3rd quartile [1.6,2.69], 4th quartile [2.7,11.7]. Calculated as the percentage point change from 2005-2009. Annual levels are the simple average of 12 months..

7. Econometric results confirm that regional skill mismatches and housing conditions could have raised unemployment rates. Table 1 shows that higher skill mismatches and foreclosure rates usually raise unemployment rates even after correcting for common cyclical factors. Skill mismatches would account for around 50 basis points of the increase in the national equilibrium unemployment rate since the end of 2007. A specification using the share of subprime mortgages in a state as an instrument for changes in foreclosure rates (to minimize any residual causality going from changes in unemployment rates to housing market conditions) confirm the findings. In addition, larger skill mismatches in states/years with bad housing conditions (and vice-versa) appear to be associated with higher unemployment rates than in the presence of milder housing cycles.

Table 1

Explaining Changes in State-Level Unemployment Rates 1/

article image
* Significant at a 10 percent level of significance, ** significant at a 5 percent level of significance, *** significant at a 1 percent level of significance.

Panel approach; annual data for the period 1990-2008 for 50 U.S. states plus the District of Columbia.

Instruments used: subprime share of mortgages (contemporaneous and 1 period lag).

Instruments used: subprime share of mortgages (contemporaneous and 1-period lag), log-change of skill mismatch*share of subprime mortgages (contemporaneous and 1 lag).

The estimates are below those typically found in cross-country regressions (see Chapter III of this Selected Issues Paper), as expected when using a panel of U.S. states and time dummies. In this setup, changes in state GDP above and beyond the country average would pick up the ensuing labor mobility across states (a minor effect in cross-country regressions), which serves to equalize unemployment rates. State-by-state regressions, which would minimize (albeit not eliminate) this effect, produces an average Okun’s coefficient for the country as a whole of -0.22.

Controls for business cycle variations and changes in national policies, e.g., policy interest rates.

8. Our analysis suggests that increases in skill mismatches and deterioration in housing conditions explain a significant share of increased unemployment during the crisis. The specifications shown in Table 1 imply an increase in the national equilibrium unemployment rate (related to skill mismatches and housing conditions) between 2007 and 2009 ranging from 1 to 1¾ percentage points. Some states have experienced a large increase in structural unemployment factors (e.g., Florida, Arizona, Hawaii, and Nevada) while others have experienced only minor increases (e.g., D.C., West Virginia, Alabama, and the Dakotas) (Figure 4). A simple Hodrick-Prescott filter applied to state-level unemployment rate data and then aggregated at the national level using relative labor force shares as weights, produces a national equilibrium unemployment rate of about 5 percent in 2007—a level consistent with estimates by other analysts. Thus, the structural changes discussed here, imply an equilibrium unemployment rate in the United States of around 6½ percent in 2009.

Figure 4.
Figure 4.

Estimated Equilibrium Unemployment Rate at End-2009 By State 1/

(in percent)

Citation: IMF Staff Country Reports 2010, 248; 10.5089/9781455206759.002.A001

Sources: U.S. Bureau of Labor Statistics and authors' calculations.1/ Equilibrium unemployment rate in 2007 is estimated using an HP-filter for the period 1990-2007 for each state. The structural increase in the unemployment rate in 2008 and 2009 is the increase in the fitted unemployment rate value, as predicted by the model, from the increases in skills mismatches and housing hurdles.Note: States are ordered based on the cumulative structural increase in the period 2008-2009.

9. Going forward, our estimates do not directly imply that this structural increase in unemployment rates will be persistent.7 The U.S. economy is quite flexible and it is possible that current skill mismatches in the labor market and structural problems in the housing markets would be cleared before too long. However, ongoing high mortgage delinquency rates and evidence of record-high rates of negative housing equity suggest that the woes in that sector may constrain labor mobility for a while. Also, the sharp rise in skill mismatches may have a deeper base than in previous downturns, as sector-specific shocks and the pressure to reallocate resources away from declining sectors to tradable goods sectors have been enormous.

C. Policy Implications

10. We find that equilibrium unemployment rates increased by about 1½ percentage points in the United States following the Great Recession, which calls for some policy action. The macroeconomic stimulus in the pipeline could be complemented by targeted policies to raise hiring and clear the housing market, though the fiscal costs of such policies should be closely evaluated given the concerns about the sustainability of the U.S. fiscal position. Priority could be given to subsidies to net hiring as academic research has shown such subsidies to be a more enduring way to raise employment rates, although these subsidies would need to be well targeted to limit redundancy and waste (Katz, 2010, and Estevão, 2007).8 Well-designed policies to enhance matching between vacancies and unemployed workers and to improve the skills of the unemployed could also help (Heckman, Lalonde, and Smith, 1999). Measures to raise the number of mortgage modifications, and if needed allowing mortgages to be renegotiated in courts (“cramdowns”), could also be important, as they would help to clear the housing markets more quickly.

References

  • Abraham, K.G. and R. Shimmer, 2001, “Changes in Unemployment Duration and Labor Force Attachment,” NBER Working Paper No. 8513, National Bureau of Economic Research.

    • Search Google Scholar
    • Export Citation
  • Estevão, M., 2007, “Labor Policies to Raise Employment,” IMF Staff Papers, Vol. 54, No.1, 113138, March.

  • Estevão, M. and E. Tsounta, 2010, “Is U.S. Structural Unemployment on the Rise?” IMF Working Paper, forthcoming.

  • First American CoreLogic, 2010, Negative Equity Report, May.

  • Frey, W.H., 2009, “The Great American Migration Slowdown: Regional and Metropolitan Dimensions,” Washington DC: Brookings Research Report, December.

    • Search Google Scholar
    • Export Citation
  • Government Accountability Office (2007), “Trade Adjustment Assistance: Changes to Funding Allocation and Eligibility Requirements Could Enhance States’ Ability to Provide Benefits and Services,” GAO-07-701, Washington, DC: GAO.

    • Search Google Scholar
    • Export Citation
  • Heckman, J., R. Lalonde, and J. Smith, 1999, “The Economics and Econometrics of Active Labor Market Programs,” in O. Ashenfelter and D. Card (eds.), Handbook of Labor Economics, Elsevier Science.

    • Search Google Scholar
    • Export Citation
  • Katz, L., 2010, “Long-Term Unemployment in the Great Recession,” Testimony Before the Joint Economic Committee of the Congress of the United States, April 29. April 29.

    • Search Google Scholar
    • Export Citation
  • Kitao, S., A. Sahin, and J. Song, 2010, “Subsidizing Job Creation in the Great Recession,” Federal Reserve Bank of New York Staff Reports, No. 451, May.

    • Search Google Scholar
    • Export Citation
  • Peters, D., 2000, “Manufacturing in Missouri: Skills-Mismatch,” ESA-0900-2. Research and Planning, Missouri: Department of Economic Development, available at: http://www.missourieconomy.org/industry/manufacturing/mismatch.stm

    • Search Google Scholar
    • Export Citation

Notes

1

Prepared by Thomas Dowling, Marcello Estevão, and Evridiki Tsounta.

2

Summary of forthcoming IMF Working Paper by Marcello Estevão and Evridiki Tsounta (both WHD).

3

There has been a trend increase in unemployment duration since the 1970s, partly explained by the passage of the baby boomers into their prime working years (Abraham and Shimmer, 2001), although the recent increase driven by the crisis is well beyond levels implied by the documented trend.

4

Our analysis is based on FHFA house prices given the better geographic coverage; our results remain robust to using Case-Shiller house-price indices.

5

According to First American CoreLogic (2010), 70 percent of all mortgaged properties were underwater in Nevada at end 2010Q1, while less than 10 percent of the mortgaged properties in New York and Oklahoma had negative equity.

6

Foreclosure rates are strongly correlated with negative equity measures.

7

Due to data limitations (the skills mismatch index begins in 1990) our analysis does not shed light on the persistence question, as the recessions of the early 1990s and early 2000s were shallow and did not post the same level of regional dislocation. The natural rate of unemployment has been on a decreasing trend since the mid-1970s (even during recessions), making persistence an important issue for future research.

8

Kitao, Sahin, and Song (2010) find that hiring subsidies and a payroll tax deduction can stimulate job creation in the short term but can cause a higher equilibrium unemployment rate in the long term.

United States: Selected Issues Paper
Author: International Monetary Fund