Economic Myths: The Unemployment Rate

Every month, the news headlines proclaim that the unemployment rate is some percent, and many people automatically assume that this is based on an increase (or decrease) in the number or unemployment insurance filings. Many people also assume that the rate is based on the work status of all Americans.

Despite this common myth, the unemployment rate is actually a separate statistic, collected by the U.S. Bureau of Labor Statistics (BLS), separate from unemployment insurance filings. The BLS calculates the rate based on a sampling of the population, using its Current Population Survey (CPS), which is a monthly sample survey of 60,000 households that are representative of the entire U.S population. (Every month, the BLS changes one-quarter of the households in the sample to avoid interviewing any one household more than four consecutive months.) The state-based design of the survey reflects urban and rural areas, different types of industrial and farming areas, and the major geographic divisions of each state.

Understanding the calculation
Overall, the unemployment rate is a pretty basic calculation: the number of unemployed divided by the total labor force. But let's explore the nuts and bolts of what the number really means. Understanding the terminology can be challenging, so let's get some definitions out of the way:

  • Unemployed: Individuals who are not currently working and who actively looked for work during last four weeks.
  • Employed: Individuals who worked full or part time during the past week.
  • Labor force: People who are working age (16 to retirement age) and who are employed or unemployed.
  • Out of the labor force: People who did not work during the past week and who did not look for work in the past four weeks—for example, full-time students, retirees, unpaid homemakers, discouraged workers (people who are out of work and able to work, but who did not look for work in the past four weeks, probably because they have given up).

Let's look at an example. In XYZ town, there are 10 people who are unemployed, 90 who are employed, and 15 who are out of the labor force. What is the unemployment rate?

As a reminder, the calculation is:

Unemployment rate = Number of unemployed / Total labor force

So let's plug in the numbers:

Unemployment rate = 10 unemployed / (10 unemployed + 90 employed)
Unemployment rate = 10/100, or 10%

But what about the 15 people who are out of the labor force? Remember, the BLS does not include them in the calculation. Let's consider the impact that these individuals could have on the unemployment rate if some of them suddenly decide to reenter the labor market. If five of out-of-the-labor-force people decide to start looking for work because they feel the economy is on the rebound their job options are better, what would the unemployment rate then be?

Unemployment rate = 15 unemployed / (15 unemployed + 90 employed)
Unemployment rate = 15/10, or 14.29%

As a fall 2013 Extra Credit article explained: "The unemployment rate can increase even when the labor market is improving. For example, the unemployment rate rose from 7.5 percent to 7.6 percent in May 2013, but this increase was due to more people entering the labor market." In the previous example, the number of people in XYZ town did not change, but the labor force participation rate increased and, as a result, the unemployment rate rose.

The student connection
Another fall Extra Credit article looked at the high teen unemployment rate, which for 16- to 19-year-olds in August 2013 was 22.7 percent. (Recall that this number includes only those teens who were unemployed but actively seeking work.) The BLS reported that at the time the total population of 16–19 year olds was 16.7 million. Of those, 5.7 million were in the labor force and 11 million were out. Of the teens in the labor force, 4.4 million were employed and 1.3 million were unemployed.
Since a significant portion of the teen labor market is not in the labor force, even having only 5 percent of them—more than half a million teens—suddenly enter would have a significant impact on the unemployment rate. This rate would rise to 32 percent, assuming that all the new entrants are unemployed. Similarly, if 5 percent of those who are unemployed—about 285,000 teens—left the labor market, the rate would improve, dropping to 18.7 percent. In both of these situations, the teens are not working, but the difference is whether they start or stop actively looking for employment.

Teaching unemployment
The Federal Reserve and other organizations offer many resources for teaching about unemployment. Here are some of them:

The Classroom Economist. These modules feature videos, lessons in both PowerPoint and SMART Board formats, quizzes, and other content designed to clarify and enhance teacher and student understanding of core economic, personal finance, and Federal Reserve topics, including unemployment.

The Fed Explained. An animated video series that offers a range of content explaining economic concepts—including unemployment, inflation, gross domestic product—and the role of the Federal Reserve System. The use of animation, graphics, and real-life examples helps engage students in the topics.

The Jobs Calculator. This online tool calculates the net employment change needed to achieve a target unemployment rate after a specified number of months. Students can adjust the target unemployment rate, the number of months, and the assumed labor force growth.

Labor Market spider chart. This chart offers real-time tracking of broad labor market developments. Students can compare current conditions to those in the fourth quarters of 2007 (prerecession peak) and 2009 (postrecession employment trough). Indicators of labor market status are broken up into four groups: employer behavior, confidence, utilization, and leading indicators. The data are updated twice a month.

Related resources
BLS Current Population Survey and an explanation of how unemployment is measured
BLS Employment Situation

By Jackie Morgan, senior economic and financial education specialist with the Nashville Branch of the Atlanta Fed

January 21, 2014