Monday, December 30, 2013

Unemployment Rates in Canada and the US

In this post, I describe the evolution of unemployment rate in Canada between January 1976 and November 2013 and compare it to that of the United States (US). I have particularly linked periods of high unemployment to the state of the world economy pointing out the major economic crises the two countries experienced, their consequences, and some policy actions they took. 
Some major crises Canada and the US experienced over 1976-2013 are: the oil crises of the 1970s, the early 1980s crisis, the 1990 oil price shock, and the 2008-2012 global recessions.

Unemployment rate is the share of people fit and available for work that are seeking a main job. Its level may also depend on other factors such as the unemployment benefits eligibility rules that I abstract from here.

The figure below plot monthly unemployment rates in Canada and the US.
Figure: Unemployment Rates, Canada and US, 1976:1-2013:11, Seasonally Adjusted,

Figure: Unemployment Rates, Canada and US, 1976:1-2013:11, Seasonally Adjusted,

Data Sources: Statistics Canada and Federal Reserve Bank of St Louis.

The above figure shows that unemployment rate tends to be higher and more volatile in Canada than in the US. The average unemployment rate in Canada over the sample period is 8.43 % and 6.49 % in the US. The standard deviations for the two countries are respectively 1.65 and 1.59. The highest rate over the sample period is 13.1 % and occurred in Canada in December1982. The highest rate the US experienced, 10.8 %, occurred one month earlier.

There are particularly two periods where unemployment rate was in a row above 10 % in Canada: the period ranging from May 1982 to December 1985 and the one ranging from February 1991 to October 1994. During these two periods, unemployment rate was also high in the US.
I now review the economic events that are related to the high periods of unemployment in both countries.

The Oil Crises of the 1970s and the Crisis of the Early 1980s

In October 1973, the Organization of the Petroleum Exporting Countries raised by 70 % the price of crude oil, cut-off its supply, and proclaimed a total embargo on oil deliveries to the US in response to its support to Israel in the Yom-Kippur war. This was the first oil crisis that lasted till March 1974. This oil shock fueled inflation. Inflation rate in the US was 6.07 % in 1973 and 10.45 % the following year. In Canada, the inflation rates in 1973 and 1974 were respectively 7.22 % and 10.43 %.

The second oil shock took place in 1979 after the Iranian Revolution when oil exports from Iran, the second largest oil producer, were suspended. Prices kept increasing worldwide. In October 1979, the US central bank, the Federal Reserve Bank (the Fed, in short), operated a policy shift in order to bring down inflation. It allowed its key interest rate, the federal funds rate, to rise in response to an expected increase in inflation. The aim was to reduce money demand and bring money supply back to its targeted growth rate. Under this monetary policy operating procedure that ended in 1982, when inflation was going to reach the peak of 12.66 % at the end of 1980, the effective federal funds rate already hit the high of 19.1 % per annum in June.

To ease the damages of high and volatile US short-term interest rates on the Canadian economy,   the Bank of Canada also operated a switch in the conduct of its monetary policy in March 1980.  Its key interest rate, the discount rate, became again a floating rate that was linked to the three-month treasury bill rate set at the federal government weekly bill auction.  In 1981, the inflation rate in Canada peaked 11.75 % and the Bank of Canada’s discount rate, responding to market forces, reached a historical high of 21.03 % per annum in August of the same year.  Over six consecutive quarters starting from the second half of 1981, the real gross domestic product (GDP) fell. GDP at end of 1982 was 5.03 % below its level of June 1981.

The high unemployment rates observed in Canada and the US in the early 1980s is the result of the contraction in the economic activity occasioned by the tightening of monetary policy by the Bank of Canada and the Fed.

The Savings and Loan (S&L) Crisis of the 1980s and 1990s in the US

The rise in short-term interest rates raised S&L institutions’ interest payments on deposits compared to the returns on their portfolios largely made up of fixed-rate mortgage loans. They then started losing money. About a quarter of the 3234 S&L in the US failed causing inter alia, many job losses in the finance industry.   

The 1990 Oil Price Shock

In August 1990, Iraq invaded and annexed Kuwait, its southern neighbor, setting off the First Gulf War.  The United Nations authorized military operation named Desert Storm freed the country in February 1991. Retreating from Kuwait, Iraqi military forces set fire to more than 600 oil wells. During that war, oil supplies from both countries were disrupted pushing up its price. This rise was instrumental in the recession of the early 1990s. Inflation hit a peak of 5.28 % in 1990 in the US.  Canada experienced an inflation of 5.47 % in 1991. In anticipation to this peak, market forces drove the Bank of Canada’s key interest rate to the peak of 14.05 % per annum in May 1990. This tightening of monetary policy brought the economy below its production capacity causing the double digit unemployment rates Canada experienced between November 1991 and May 1994. When the government entrusted the Bank of Canada with bringing down inflation to 2% by the end of 1995, the Bank key interest rate went from 10.02 % in February 1991 to 4.1 % three years later.

The 2008-2012 Global Recession

It originated from the 2008 financial crisis. As effects of that recession on the US economy, one can mention the downturn in the stock market, the decline in the sales of cars and real estates, the bankruptcy of many businesses, and the prolonged unemployment. Between 2008 and 2009, GDP fell over four consecutive quarters. It fell by 2.18 % over the last quarter of 2008. This was the worst US growth rate since the beginning of 1958.  In Canada, real GDP also fell between 2008 and 2009. It recorded a growth rate of -1.62 %, its worst, at the beginning of 2009. In October 2008, the unemployment rate in the US start exceeding that in Canada what has not occurred since August 1981.

A Reading List
Bank of Canada, Monetary Policy
Walsh, Carl E (2003) Monetary Theory and Policy, 2nd edition, The MIT Press, pp 164-6.
Wikipedia, List of Economic Crises, www.wikipedia.org.