Expiration of jobless benefits poses growth risk to US economy

Expiration of jobless benefits poses growth risk to US economy

With benefits for the long-term unemployed ending at the beginning of 2014, forecasters are downgrading US growth projections.

For 1.3 million long-term unemployed workers in the US, 2014 starts with a shock. Federal jobless benefits for those who have been out of work for more than twenty-six weeks, which have been in effect since 2008, are set to expire. Renewing the program – which pays an average of $300 per week to Americans, who have been unable to find work for more than six months in a depressed job market – was a Democratic priority in the recent budget negotiations, but was eventually left out due to a Republican demand.

Jobless benefits became a proxy for the debate over the size of the federal government, and in the process the program’s impact on economic recovery was lost. The expiration of the program is forecasted to be a drag on an otherwise optimistic outlook for consumer spending and GDP growth in 2014.

The intricate weave of the social safety net

Before the onset of the 2008 recession, jobless benefits were usually offered for twenty-six weeks and were financed by a combination of state and federal funds. When the labor market tanked in 2008, the federal government began funding an expansion of benefits beyond 26 weeks, up to 99 weeks in some places. With this program expiring in 2014, long-term unemployment benefits will stop after 26 weeks. Six states will cut coverage further.

Long-term unemployment has been the lasting impact of the Great Recession. While GDP and stock markets have recovered or grown above their 2008 levels, long-term unemployment has not returned to pre-recession levels.

Unemployment graph

The median length of unemployment in 2013 was nearly double the pre-recession length. (Data: Bureau of Labor Statistics)

Short-term unemployment is actually lower than it was pre-recession. But unemployment in the US is still high, at 7% in November. That is because long-term unemployment has exploded since 2008. The combination of poor labor market conditions and systematic hiring discrimination against long-term unemployed candidates (highlighted by recent research by the Boston Fed) accounts for the phenomenon. With so many candidates vying for a single job opening, employers are not choosing the ones who have been out of work for an extended period of time.

Unsurprisingly, the states that will be hit hardest by the end of jobless benefits are some of the states with the weakest labor markets. New Jersey, Massachusetts, Alaska, Georgia, Connecticut, California and Pennsylvania previously had greater than 1.33% of their labor forces on the emergency federal benefits.

A drag on consumer spending growth

The political debate over jobless benefits revolves around moral decisions about welfare, but that ignores their economic impact. Approximately $1.7 billion of benefits will not be paid out in January alone. Since unemployed workers are much more likely to spend all of their benefits on consumption, rather than saving and investment, consumer spending and retail sales will take a hit in early 2014. Consumer spending makes up over two-thirds of US GDP, so economic growth will be impacted as well.

IHS Global Insight estimates that first quarter GDP growth will be 0.2% lower than previously forecasted because of the expiration of extended benefits. The drag on growth can be expected to continue until either the benefits are re-introduced (which Democratic senators are proposing) or labor market conditions improve substantially. The labor market is not anticipated to pick up more in the near future. It has long dragged behind other economic indicators and is improving only gradually, as shown by high unemployment rates and a high unemployment-to-job vacancy ratio.

The expiration of benefits is also likely to take a toll on other economics measures. In a continuation of the trend since 2009, long-term unemployed workers fall out of the labor force more readily than other unemployed workers. Labor force participation rates have fallen since then, which has artificially lowered the unemployment rate and shielded the true state of the labor market. The recent real-life experiment of North Carolina’s cutting its jobless benefits program substantiates that this will continue with the federal cuts.

Once again, the US economy is forecasted to pick up into a more robust recovery in 2014 – as has occurred at the beginning of previous years. But the same factors that dragged forecasted growth down in previous years are already popping up in 2014: a weak labor market is affecting consumer spending and confidence. And for an economy so deeply rooted in retail spending, that is an indication of more lackluster GDP figures to come.

Categories: Economics, North America

About Author

Alex Christensen

Alex is an Editor at Global Risk Insights, who also currently works in investment research. His work on political risk and economic policy has appeared in many forums, including Business Insider, Seeking Alpha, Oilprice.com & The Emerging Market Investors Association. He holds a Master’s in Economics from the London School of Economics and BA from Washington University in St. Louis.