How Can the Unemployment Rate Drop When People Give Up Looking For a Job?

A drop in the unemployment rate is a good thing, right? Actually, not necessarily.

The rate of unemployment is perhaps the most important indicator of the health of the economy and is widely anticipated. It is released each month by the Bureau of Labor Statistics at 8:30 am on the first Friday of the month, unless the first Friday is the 1st day of the month.

Analysts and the media focus on two data items: the unemployment rate and the number of jobs gained or lost. These come from separate surveys of households and business establishments. The numbers are predicted by economists, and the predictions are widely publicized and discussed. Numbers different from the expectations move markets.

The report for September will come out on Friday morning. As shown on the Bloomberg calendar, the September unemployment rate is expected at 9.7% and the number of jobs lost is -8,000. Again, numbers different from these expectations will move markets. If the unemployment rate moves closer to 10%, it could be the trigger for QE2, the easing program for the Federal Reserve whereby they purchase fixed income securities in an effort to lower longer-term interest rates, including mortgage rates.

A good explanation of how the unemployment rate is calculated is provided by Khan's Academy, which was looked at in a previous post. This particular post provides an excellent explanation of how the unemployment rate can drop (hint: if you haven't looked for a job in the past 4 weeks, you are out of the labor force) if those seeking a job give up looking for work--something that investors need to keep their eye on in the current weak economic environment.