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Slow growth leads to higher unemployment

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A weekly presentation of downloadable charts and short analyses designed to graphically illustrate important economic issues. Updated every Wednesday.

Snapshot for June 6, 2001.

Slow growth leads to higher unemployment
A long-accepted principle of economics is that, when the economy grows slowly, unemployment rises. Back in the early 1960s, economist Arthur Okun showed that for every point by which gross domestic product (GDP) grows below its potential, unemployment tends to rise one-half a percentage point. As the figure shows, this relationship has persisted over time. This trend is particularly relevant now, given that GDP is clearly growing slowly relative to earlier years in the recovery, when fast growth helped to bring the unemployment rate down to a 30-year low. Given the slowdown, “Okun’s law” predicts that unemployment will continue to rise until the economy gets back on track.

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DATA NOTE: The figure uses 3.5% for the potential GDP growth rate and -0.5 for the so-called “Okun coefficient.” On the left axis the figure plots the percentage-point change in the unemployment rate, and on the right it plots (GDP growth minus 3.5) multiplied by -0.5. Note that the two lines track each other quite closely, indicating that, when the economy grew below its potential (or contracted, as in a recession), unemployment increased.

Note that the last point in the figure is based on unemployment data through May 2001 and GDP data through the first quarter of 2001. With the current disparity between these two variables, Okun’s law predicts that, unless GDP speeds up quickly, unemployment will potentially increase another percentage point from its current level of 4.4%.

This week’s Snapshot by EPI economist Jared Bernstein.

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