The Federal Reserve’s hopes for a “soft landing” rest on a rarely occurring phenomenon: Unemployment will rise not because workers lose their jobs, but because more people without jobs start looking for work.
Typically, the unemployment rate goes up because a slowdown in the economy prompts a wave of layoffs. That hurts household spending, kicking off a dynamic that can feed on itself and plunge the economy into recession.
This time around, many forecasters expect the labor force participation rate to rise as people who quit working during the pandemic return to the job market, just as employers slow hiring in the face of higher interest rates.
If that were to happen, it might put downward pressure on incomes and spending without causing a severe downturn -- the very definition of a soft landing.
Such a scenario would represent a break from past labor market patterns and mark yet another unusual legacy of a once-in-a-century pandemic for the economy. And it could give the US central bank, which is rapidly hiking rates to curb decades-high inflation, license to keep them higher for longer if it plays out.
“The norm is for the Fed to push the economy into recession, you get layoffs, and that puts upward pressure on the unemployment rate,” said Jonathan Millar, a senior economist at Barclays Plc in New York.
The narrow path to a soft landing “really depends on getting it perfect: being able to sidestep a decline in actual employment and to restore equilibrium in the labor markets by just threading the needle,” he said.
The US unemployment rate -- which includes those who have lost their jobs and are seeking new ones, as well as those who may have left the labor force for various reasons and are now looking for work again -- ticked down to 3.5% in July, matching the pre-pandemic low. But the participation rate -- which includes both the employed and job-seekers -- at 62.1%, is still more than a percentage point below its February 2020 level.
Part of the gap can be accounted for by population aging. Many also retired earlier than planned at the beginning of the pandemic and are probably unlikely to return to work.
But participation among younger workers hasn’t recovered either. The rate for people between the ages of 25 and 54 -- those of “prime working age” -- is 82.4%, down from 83.1% before Covid. The rate for those who are 16 to 24 is 55.2%, versus 57% pre-pandemic.