Unemployment and the Natural Rate
Investors and the government are keen to follow theunemployment rateto determine the state of the stock market. Monthly, the government (Department of Labor) issues a report on the number of people applying for unemployment benefits, as well as the average work week and rate of hourly earnings on average. These figures often have a direct impact on the stock market, sending stocks up or down depending on the report in the context of the economy’s rate of growth or decline.Rise, Fall, or the Natural RateWhat affect do the numbers released by the Department of Labor have on the stock market? Unemployment is one of the factors that can have a significant impact on changes in investor mood. Both rising and falling unemployment figures can be important to changes in the market.In the situation in which unemployment dips significantly, the market may consider the situation inflationary, which can lead to rising interest rates. A less significant dip is likely to be considered a strengthening of the economy, with the potential for higher profits, something that Wall Street is happy to see. However, if the figure dips too low, this pushes up the cost of wages, something not viewed as favorably.Much of the effect of these figures on the stock market and investment trends relies on their proximity to the natural rate (NARU), which is an estimated 5.5 percent in unemployment. When unemployment figures hover around this number, the economy is considered to be strong, stable, and growing at a healthy rate.Economic Times Affect Economic DataSince the US banking and real estate crisis of 2008, however, unemployment has soared, pulling down economic growth and leading investors to take a bearish stance in regard to the stock market. While there has been more positive change recently (that is, new jobs being added to the economy and a lessening of the unemployment figure), investors remain cautious about the marketplace. There still remains a significant distance between the current rate of unemployment and the natural rate.However, this has not always been the case. In the late 1990s, for example, the unemployment rate was lower than the NARU, and economists (particularly at the Federal Reserve) worried extensively about inflation and wage increases. They worried that the rate of growth could not be sustained, and with hindsight, they were correct, albeit perhaps not for the correct reasons.Thus, it is easy to see that unemployment is an important figure, not only when it rises too quickly, but also when it falls below the natural rate and cannot be sustained. Increasing prices and higher wages result from unemployment rates below the NARU. While politicians like to speak of “full employment,” in fact what they likely mean may be some unemployment aligned with a dynamic economy that is growing at a steady pace, which can be sustained over the long term.
