View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

Home / Publications / Research / Economic Brief / 2022

Economic Brief
April 2022, No. 22-12

The Pandemic's Impact on Unemployment and Labor
Force Participation Trends
By Andreas Hornstein and Marianna Kudlyak

Following early 2020 responses to the pandemic, labor force participation
declined dramatically and has remained below its 2019 level, whereas the
unemployment rate recovered briskly. We estimate the trend of labor force
participation and unemployment and find a substantial impact of the pandemic
on estimates of trend. It turns out that levels of labor force participation and
unemployment in 2021 were approaching their estimated trends. A return to
2019 levels would then represent a tight labor market, especially relative to longrun demographic trends that suggest further declines in the participation rate.
At the end of 2019, the labor market was hotter than it had been in years. Unemployment
was at a historic low, and participation in the labor market was finally increasing after a
prolonged decline. That tight labor market came to an abrupt halt with the COVID-19
pandemic in the spring of 2020.
Now, two years later, the labor market has mostly recovered from the depths of the
pandemic recession. The unemployment rate is close to pre-pandemic lows, and job
openings are at record highs. Yet, participation and employment rates have remained
persistently below pre-pandemic levels. This suggests the possibility that the pandemic has
permanently reduced participation in the economy and that current participation rates
reflect a new normal. In this article, we explore how the pandemic has affected labor
markets and whether a new normal is emerging.

What Is "Normal"?
One way to define the normal level of a variable is to estimate its trend and compare the
observed data with the estimated trend values. Constructing a trend essentially means
drawing a smooth line through the variations in the actual data.

But this means that constructing the trend for a point in time typically involves considering
what happened both before and after that point in time. Thus, constructing the trend at the
end of a sample is especially hard, since we do not yet know how the data will evolve.
We construct trends for three aggregate labor market ratios — the labor force participation
(LFP) rate, the unemployment rate and the employment-population ratio (EPOP) — using
methods described in our 2019 article "Projecting Unemployment and Demographic
Trends."
First, we estimate statistical models for LFP and unemployment rates of demographic
groups defined by age, gender and education. For each gender and education, we
decompose its unemployment and LFP into cyclical components common to all age groups
and smooth local trends for age and cohort effects.
Second, we aggregate trends from the estimates of the group-specific trends. Specifically,
we construct the trend for the aggregate LFP rate as the population-share-weighted sum of
the corresponding estimated trends for demographic groups. We construct the aggregate
unemployment rate and EPOP trends from the group-specific LFP and unemployment
trends and the groups' population shares.
In our previous work, we estimated the trends for the unemployment rate and LFP rate of a
gender-education group separately using maximum likelihood methods. The estimates
reported in this article are based on the joint estimation of LFP and unemployment rate
trends using Bayesian methods.
We separately estimate the trends using data from 1976 to 2019 (pre-pandemic) and from
1976 to 2021 (including the pandemic period). Figures 1, 2 and 3 display annual averages
for the three aggregate labor market ratios — the LFP rate, the unemployment rate and
EPOP, respectively — from 1976 to 2021.

Enlarge

Enlarge

Enlarge
In each figure, the solid black line denotes the observed values, and the blue and pink lines
denote the estimated trend using data from 1976 up to and including 2019 and 2021,
respectively. The estimated trends are subject to uncertainty, and the plotted trends
represent the median estimate of the trend.
For the estimates based on data up to 2021, we also include the 90 percent coverage area
shown as the shaded pink area. According to the statistical model, there is a 90 percent
probability that the trend is contained in the coverage area. The blue and pink dotted lines
represent our projections on how the labor market ratios will evolve until 2031, again based
on the estimated trend up to and including 2019 and 2021. The shaded gray vertical areas
highlight recessions as defined by the National Bureau of Economic Research (NBER).

Pre-Pandemic Trends: 1976-2019
We start with the pre-pandemic trends for the LFP rate and unemployment rate estimated
for data from 1976 through 2019. After a long recovery from the 2007-09 recession, the LFP
rate was 63.1 percent in 2019 (slightly above the estimated trend value of 62.8 percent), and
the unemployment rate was 3.7 percent (noticeably below its estimated trend value of 4.7
percent).

The LFP rate being above trend and the unemployment rate being below trend reflects the
characterization of the 2019 labor market as "hot." But note that even though the LFP rate
exceeded its trend value in 2019, it was still lower than during the 2007-09 period. This
difference is accounted for by the declining trend in the LFP rate.
As noted in our 2019 article, LFP rates and unemployment rates differ systematically across
demographic groups. Participation rates tend to be higher for younger, more-educated
workers and for men. Unemployment rates tend to be lower for men and for the older and
more-educated population.
Thus, changes in the population composition over time — that is, the relative size of
demographic groups — will affect the aggregate LFP and unemployment rates, in addition
to changes in the LFP and unemployment rate trends of the demographic groups.
As also noted in our 2019 article, the hump-shaped trend of the aggregate LFP rate reflects
a variety of forces:
Prior to 1990, the aggregate LFP rate was boosted by an upward trend in the LFP rate
of women. But after 1990, the LFP rate of women began declining. Combining this with
declining trend LFP rates for other demographic groups has reduced the aggregate LFP
rate.
Changes in the age distribution had a limited impact prior to 2005, but the aging
population since then has lowered the aggregate LFP rate substantially.
Increasing educational attainment has contributed positively to aggregate LFP
throughout the period.
The steady decline of the unemployment rate trend reflects mostly the contributions from
an older and more-educated population and, to some extent, a decline in the trend
unemployment rates of demographic groups.

Pre-Pandemic Expectations of Future LFP and
Unemployment Trends
Our statistical model of smooth local trends for the LFP and unemployment rates of
demographic groups has the property that the best forecast for future trend values of
demographic groups is their last estimated trend value. Thus, the model will only predict a
change in the trend of aggregate ratios if the population shares of its constituent groups
are changing.
We combine the U.S. Census Bureau population forecasts for the gender-age groups with
an estimated statistical model of education shares for gender-age groups to forecast
population shares of our demographic groups from 2020 to 2031 (the dotted blue lines in
Figures 1 and 2).

As we can see, the changing demographics alone imply further reductions of 1 percentage
point and 0.2 percentage points in the trend LFP rate and unemployment rate, respectively.
This projection is driven by the forecasted aging of the population, which is only partially
offset by the forecasted higher educational attainment.
Based on data up to 2019, the same aggregate LFP rates in 2021 as in 2019 would have
represented a substantial cyclical deviation upward from the pre-pandemic trends.
It is notable that the unemployment rate is much more volatile relative to its trend than the
LFP rate is. In other words, cyclical deviations from trend are much more pronounced for
the unemployment rate than for the LFP rate.
In fact, in our estimation, the behavior of the unemployment rate determines the common
cyclical component of both the unemployment rate and the LFP rate. Whereas the
unemployment rate spikes in recessions, the LFP rate response is more muted and tends to
lag recessions. This feature will be important for interpreting how the estimated trend LFP
rate changed with the pandemic.
Finally, Figure 3 combines the information from the LFP rate and unemployment rate and
plots actual and trend rates for EPOP. On the one hand, given the relatively small trend
decline of the unemployment rate, the trend for EPOP mainly reflects the trend for the LFP
rate and inherits its hump-shaped path and the projected decline over the next 10 years.
On the other hand, EPOP inherits the volatility from the unemployment rate. In 2019, EPOP
is notably above trend, by about 1 percentage point.

Unemployment and Labor Force Participation During the
Pandemic
The behavior of unemployment resulting from the pandemic-induced recession was
different from past recessions:
The entire increase in unemployment between February and April 2020 was accounted
for by the increase in unemployment from temporary layoffs. This differed from
previous recessions, when a spike in permanent layoffs led the bulge of unemployment
in the trough.
The recovery started in May 2020, and the speed of recovery was also much faster than
in previous recessions. After only seven months, unemployment declined by 8
percentage points.
The behavior of the unemployment rate is reflected in the 2020 recession being the
shortest NBER recession on record: It lasted for two months (March to April 2020).
To summarize, the runup and decline of the unemployment rate during the pandemic were
unusually rapid, but the qualitative features were not that different from previous
recessions after properly accounting for temporary layoffs, as noted in the 2020 working

paper "The Unemployed With Jobs and Without Jobs."
The decline in the LFP rate was sharp and persistent. The LFP rate dropped from 63.4
percent in February 2020 to 60.2 percent in April 2020, an unprecedented drop during such
a short period of time. After a rebound to 61.7 percent in August 2020, the LFP rate
essentially moved sideways and remained below 62 percent until the end of 2021.
The large drop in the aggregate LFP rate has been attributed to, among others:
More people — especially women — leaving the labor force to care for children
because of school closings or to care for relatives at increased health risk, as noted in
the 2021 work "Assessing Five Statements About the Economic Impact of COVID-19 on
Women (PDF)" and the 2021 article "Caregiving for Children and Parental Labor Force
Participation During the Pandemic"
An increase in retirement due to health concerns, as noted in the 2021 working paper
"How Has COVID-19 Affected the Labor Force Participation of Older Workers?"
Generous pandemic income transfers and unemployment insurance programs, as
noted in the 2021 article "COVID Transfers Dampening Employment Growth, but Not
Necessarily a Bad Thing"
All of these factors might impact the participation trend, but by how much?

The Pandemic's Effect on Trend Estimates for LFP and
Unemployment
The aggregate trend assessment for the LFP and unemployment rates has changed
considerably as a result of 2020 and 2021. Repeating the estimation of trend and cycle for
our demographic groups using data from 1976 up to 2021 yields the pink trend lines in
Figures 1 and 2.
The updated trend estimates now put the positive cyclical gap in 2019 for LFP at 0.5
percentage points (rather than 0.3 percentage points) and the negative cyclical gap for the
unemployment rate at 1.4 percentage points (rather than 1 percentage point). That is, by
this estimate of the trend, the labor market in 2019 was even hotter than by the estimates
from the 1976-2019 period.
In 2021, the actual LFP rate is essentially at trend, and the unemployment rate is only
slightly above trend. That is, by this estimate of the trend, the labor market is relatively
tight.
Notice that even though the new 2021 trend estimates for both the LFP and the
unemployment rates differ noticeably from the trend values predicted for 2021 based on
data up to 2019, the trend revisions for the LFP rate are limited to more recent years,
whereas the trend revisions for the unemployment rate apply to the whole sample.

The difference in revisions is related to how confident we can be about the estimated
trends. The 90 percent coverage area is quite narrow for the LFP rate for the entire sample
up to the last four years. Thus, there is no need to drastically revise the estimated trend
prior to 2017.
On the other hand, the 90 percent coverage area for the trend unemployment rate is quite
broad throughout the sample. That is, a wide range of values for trend unemployment is
potentially consistent with observed unemployment values. Consequently, the last two
observations lead to a wholesale reassessment of the level of the trend unemployment
rate.
Another way to frame the 2020-21 trend revisions is as follows. The unemployment rate is
very cyclical, deviations from trend are large, and though the sharp increase and decline of
the unemployment rate in 2020-21 is unusual, an upward level shift of the trend
unemployment rate best reflects the additional pandemic data.
The LFP rate, however, is usually not very cyclical, and it is only weakly related to the
unemployment rate. Since the model assumes that the cyclical response does not change
over the sample, it then attributes the large 2020-21 drop of the LFP rate to a decline in its
trend and ultimately to a decline of the trend LFP rates of most demographic groups.
Finally, the EPOP trend is again mainly determined by the LFP trend, seen in Figure 3.
Including the pandemic years noticeably lowers the estimated trend for the years from
2017 onwards. The cyclical gap in 2019 is now estimated to be 1.4 percentage points, and
2021 EPOP is close to its estimated trend.

What Does the Future Hold?
In our framework, current estimates of trend LFP and the unemployment rate for
demographic groups are the best forecasts of future rates. Combined with projected
demographic changes, this implies a continued noticeable downward trend for the LFP rate
and a slight downward trend for the unemployment rate.
The trend unemployment rate is low, independent of how we estimate the trend. But given
the highly unusual circumstances of the pandemic, the model may well overstate the
decline in the trend LFP rate. Therefore, it is likely that the "true" trend lies somewhere
between the trends estimated using data up to 2019 and data up to 2021.
That being a possibility, it remains that labor markets as of now have been unusually tight
by most other measures, such as nominal wage growth and posted job openings relative to
hires. This suggests that the true trend is closer to the revised 2021 trend than to the 2019
trend. In other words, the LFP rate and unemployment rate at the end of 2021 relative to
the 2021 estimate of trend LFP and unemployment rate are consistent with a tight labor
market.

Andreas Hornstein is a senior advisor in the Research Department at the Federal Reserve
Bank of Richmond. Marianna Kudlyak is a research advisor in the Research Department at
the Federal Reserve Bank of San Francisco.
To cite this Economic Brief, please use the following format: Hornstein, Andreas; and Kudlyak,

Marianna. (April 2022) "The Pandemic's Impact on Unemployment and Labor Force
Participation Trends." Federal Reserve Bank of Richmond Economic Brief, No. 22-12.

This article may be photocopied or reprinted in its entirety. Please credit the authors,
source, and the Federal Reserve Bank of Richmond and include the italicized statement
below.
Views expressed in this article are those of the authors and not necessarily those of the Federal
Reserve Bank of Richmond or the Federal Reserve System.

Subscribe to Economic Brief
Receive an email notification when Economic Brief is posted online:
Email address

Subscribe

Contact Us
RC Balaban
(804) 697-8144

© 1997-2022 Federal Reserve Bank of Richmond