By Gunnar Schifley, Contributing Writer
Unemployment in the United States is one of the three largest economic indicators investors use to gauge the health of the economy, along with inflation and GDP growth. These terms are thrown around constantly in the news and day-to-day life, but are often left unexplained and taken as a static fact.
The statistic most often accepted in this fashion is the unemployment rate, leading to a false sense of the true domestic job market.
Before diving into what is a more accurate unemployment picture, one must first understand the rate that is commonly used in everyday life and the mainstream media. This rate is known as the U-3 metric, which defines unemployed people as those actively looking for a job that have not found one. This is an easily understood metric and, thus, has become the most commonly used.
This does not represent the true picture of unemployment in the domestic economy. Another measure of unemployment in the economy is the U-6 metric. The U-6 takes into account far more that the U-3, and, therefore, is more complicated to understand and utilize effectively in investment and business decisions. The unemployment population, according to the U-6 rate, includes the U-3 definition, as well as the underemployed, discouraged and marginally attached workers.
Underemployed refers to individuals who have had to take part-time employment instead of full-time employment. This is because they either cannot find full-time work or had to abandon their searches and take lesser work in order to survive the financial needs of daily life. Often times, it can be seen that this group of people is moving into a worse economic situation, having increases in food insecurity and also reverting from a financial standing of minimal savings to increasing consumer debt. For these reasons, it is crucial to paint a true picture of unemployment in the United States by incorporating this group of laborers.
Discouraged workers are those who were actively seeking full-time employment in the previous 12 months, but have stopped over the last four weeks due to economic conditions or other financial reasons. This is another important group to consider because this shows that unemployment, according to the U-3 metric, is lower. There is a portion of workers who have not been able to find jobs for an extended period of time. They have stopped, which removes them from the U-3 unemployment rate. It also shows that, while the overall economic picture is advancing, there is cannibalization in the job market. This means that jobs are being taken from some people and given to others, leaving a percentage of the population still unable to find work.
Marginally attached workers are individuals who fit the same definition of discouraged workers, but did not stop looking for economic reasons. This suggests they stopped searching due to health reasons, shifted towards unemployment benefits or moved into under-the-table jobs.
This is also important because it shows that the search is even worse than just discouraged workers. Again, it can be said to show increasing cannibalization in the job market, as the number of workers is lower and the number of jobs is building, due to economic growth and inflation. It also could be said that unskilled workers and the like are becoming less likely to get jobs as the number of available jobs decreases, which contributes to an already growing imbalance is the distribution of wealth (relative to the growth of the economy).
If the U-6 metric is now the rate that is used as the unemployment rate going forward in this article, the economic picture of the United States is much different and can lead to a fluctuation in the valuations that investors perform when making decisions on where to allocate capital. This is most important in the mind of an investor. The U-6 rate came in at 8.2 percent for January of 2018, following 8.0 percent, 8.0 percent and 8.1 percent relative to October, November and December. Compare this to the U-3 that was 4.1 percent over the same four months, and we can see the most commonly talked about unemployment rate is flattening while the U-6 is increasing. This shows two completely different economic outlooks and changes valuations.
When determining what a company is worth, investors take into account the economy and its growth as a factor in the value of stock returns, compared to the market returns, and if an investment is feasible. By utilizing a higher unemployment rate and taking the thesis of increasing unemployment versus flat unemployment, the valuations by many investors for many companies will drop in value. This leads into the other two economic factors discussed earlier: inflation and GDP growth.
In the United States economy now, inflation has been rising, as well as GDP growth. As inflation increases, my intuition is to say that wage growth will start to increase, as well; as the cost of living increases, so does employees need for money to be able to maintain a standard of living. Inflation then reasonably leads to an increase in unemployment, since wages for employees are higher and companies have to make decisions on how many people to employ and at what rate. With the U-6 unemployment rate, it changes the outlook of the job market when looking at inflation, as well.
GDP growth is said to be the measure of how well the economy is growing. Increases in the GDP mean the economy is becoming more efficient if unemployment is increasing at the same time. In utilizing the U-6 rate, we paint a picture of increasing efficiency in the economy that’s higher than if we used the U-3. This is also important for investors because increases in efficiency are almost always beneficial; utilizing a metric that properly demonstrates this will increase the accuracy of valuations in the market place.
Overall, the unemployment picture is much more complicated than just the static U-3 number, and understanding this can help investors in every aspect of the markets. Using the less common metric can show investors a more involved picture of unemployment domestically. In turn, it can help them better understand the impact of all three major factors used in gauging the health of the economy.
