Macro Title focus Sweden

Macro analysis 20 January 2014

Unemployment - Feds key policy variable harder to read

Central banks face new challenges as the economy recovers The financial crisis masked structural imbalances on the labour market Polarised labour markets affect inflation and productivity
skilled and the low-skilled has resulted in a higher degree of income inequality.
Table 1: Hourly average wage of men in the United States, by education (2011 dollars) 1980 2010 Percent Change Dropout 13.7 11.8 -14% High School College Advanced Degree 16.0 21.0 24.9 14.8 25.3 33.1 -8% +20% +32%

Digitalisation, urbanisation, and internationalisation are shifting the drivers of economic growth and rapidly changing the structure of labour markets around the world. Research shows that innovation and productivity growth are, to an increasing extent, concentrated in dynamic regions. 1 These regions are characterised by cutting-edge universities, high-skilled labour forces, and cultural diversity. The result is an accelerating divergence between highly educated and low skilled workers, between dynamic clusters and stagnating regions, and between countries that can meet the demand from technological change and those that cannot. These trends affect the demand for labour, productivity, and inflation. In this analysis, we discuss how these trends have affected labour markets during the financial crisis, and the challenges facing central banks during the recovery. Technology is driving a momentous shift in the US labour market The most innovative dynamic clusters are still located in the US. Top research universities, access to venture capital, and a steady increase of high-skilled labour have contributed to the success of technology start-ups in Silicon Valley and life science companies in Boston. In the US, there is a vibrant debate in academia and among policymakers on how digitalisation and internationalisation affect labour markets and economic growth.2 Research shows that the US labour market is undergoing a momentous shift.3 Technology and innovation have increased the demand for high-skilled labour, while the demand for low-skilled labour has been declining. Data show that real wages, i.e., wages adjusted for inflation, have for employees with advanced degrees improved by 32% since 1980. At the same time, real wages for white, male high school graduates are 8 percent lower today than in 1980 (see Table 1). The diverging trend in incomes between the high1 2

Source: Moretti (2013). Data include all full-time workers aged 25-60.

Striking unemployment divergence in Sweden In Sweden, the same trend is observed: increasing demand for high-skilled labour and declining demand for low-skilled labour. As in the US, wages are diverging (see Table 2). In addition, further analysis of Swedish data reveals that unemployment is increasingly concentrated among low-skilled workers (see graph 1). Almost 70% of unemployed are those with weak links to the labour market. The unemployment rate amongst university-educated employees in Sweden has trended around 5% in the past 10 years, compared with an unemployment rate approaching 20% amongst employees without a high school degree. It is noteworthy that this trend has continued throughout the financial crisis and the ensuing euro zone crisis. Traditional Swedish manufacturing, which is highly dependent on exports, has been severely hit by low demand from the rest of the world. Despite these recent crises, the demand for high-skilled labour has remained strong, while it is increasingly difficult for less educated workers to find employment.
Table 2: Monthly average wage in Sweden for women, by education (2009 kronor) Percent 1991 2009 Change Less than 9 years 15406 20948 +36% 9 years High School College Advanced Degree 15336 16074 Na 25275 22104 23288 29069 40634 +44% +45% Na +61%

Source: Statistics Sweden (2013).

See e.g., Moretti (2013). The New Geography of Jobs. See, e.g., Moretti (2013), Gordon (2013), Brynjolfsson (2013) 3 See e.g., Moretti (2013). The New Geography of Jobs.

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Macro focus Sweden FI/FX Research Large Companies and Institutions

Graph 1: Unemployment by education, Sweden 2005-2013

25,0

Data show that the Swedish Riksbank faces a similarly polarised labour market. As a result, it will be increasingly difficult
9 years High School

20,0

15,0

College 10,0

5,0

0,0

2005 2005 2006 2007 2007 2008 2009 2009 2010 2011 2011 2012 2013 Source: National Institute of Economic Research (2013). Unemployed aged 15-74

Central banks face new challenges The boom years before the financial crisis masked structural imbalances on the labour market. Due to continued process automatisation, manufacturing is not going to return as an important source of employment growth as the economy recovers. The high unemployment rates following the financial crisis in the US, as well as in Europe, are partly structural and driven by technological change. The level of resource utilisation on the labour market may not be as low as it seems. In particular, unemployment is increasingly concentrated amongst low-skilled workers as they struggle to meet the demand from a changing labour market. As the economic recovery takes hold, this divergence in the labour market will become even more pronounced.

to analyze inflationary pressures. Inflationary pressures depend on the firms marginal costs (such as wages, import prices and productivity), and the extent to which it can pass on costs to consumers (which depend on competition and demand). Swedbank forecasts that Swedish inflationary pressures will remain subdued during 2014. As growth picks up and labour markets improve in 2015, we expect a gradual increase in wages, particularly for high-skilled workers. Swedish companies will face cost pressures, but will find it difficult to pass on the costs to consumers due to tough competition from our main trading partners, in particular in the eurozone, where wage increases will remain subdued for an extended period of time. In addition, digitalisation and more competition in product markets reduce firms ability to increase prices. E-commerce, and the increased internationalization of retail, is contributing to fierce price pressures. High productivity growth could reduce unit labour costs and inflationary pressures. Digitalisation and technological innovation mean that the potential for productivity gains is large. 3D-printers, big data analysis and further process automatisation can increase the overall level of productivity in the economy. Still, given the shortage of people in the labour market who can meet the technological demands, productivity growth is likely to be subdued. The interplay between a changing labour market, productivity and inflationary pressures will be central to monetary policy during the recovery. There are three key variables to watch in the coming months to understand Feds response to subdued inflation and potential revisions to forward guidance:

As a result of polarized labour markets, Federal Reserve will face new challenges. High demand for high-skilled labour will
push up wages and risks causing wage inflation, and the need for tighter monetary policy. At the same time, unemployment will remain elevated amongst large groups of the population, creating pressure for a continued expansionary monetary policy. If unemployment among low skilled workers is structural, rather than cyclical, more expansionary monetary policy will not be sufficient to achieve full employment. In addition, if structural unemployment has increased, employment growth will become a driver of inflation at higher levels of unemployment than previously thought. Federal Reserve has repeatedly raised the issue of structural versus cyclical unemployment. In the latest FOMC minutes (December 2013), they note reports of labor shortages, particular for workers with specialized skills. They also raise concern for the risk that the persistent weakness in the labor force participation rate and low rates of productivity growth might indicate lasting structural damage. This dilemma facing central banks will be particularly strong in the US, where the Federal Reserve has a dual mandate to achieve maximum employment and to stabilise inflation.

Participation rates. Unemployment falling due to

employment growth is sign of a healthy recovery, while further declining participation is a sign of structural weaknesses.

Wage increases. To understand inflationary pressure from wages, wage growth by industry and by education level is central.

Productivity. A shortage of skilled labour and a

growing services sector may dampen productivity growth and contribute to a rebound in inflation.

Analysts Anna Breman, Anna Fellnder and Laura Galdikien

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