Jobless rate falling faster than many predicted

— -- What will it take to bring the jobless rate under 8%?

Maybe less than some economists — or even the Federal Reserve — think.

Yes, the economy has been creating more jobs since last fall, producing an average of 223,000 new jobs a month in December and January. Economists are betting the government's employment report for February, coming Friday, will be another reasonably good one, according to a Bloomberg survey showing an average prediction of 204,000 new jobs.

But are more jobs really what has made the unemployment rate drop more rapidly than many expected, as joblessness slid to 8.3% in January from 9.1% in August? It's not the whole story.

Some economists say the real reason for the recent fast drop in unemployment isn't that there are suddenly so many new jobs — it's that far fewer people than expected are looking for work. Nearly three years into the recovery, the unemployment rate has tumbled even though new job gains are far smaller than in past recoveries. Americans could see the unemployment rate continue dropping to — or even breaking through — the psychologically important 8% mark by Election Day with far fewer net gains in jobs each month.

Why could that happen? In plain English, because the percentage of the population that's working or seeking work is shrinking, and some economists believe it's not likely to bounce back even as the job market heals, making the job market less competitive and improving workers' prospects. One factor is the 1.1 million discouraged unemployed workers — some of whom won't come back into the job market even as it improves. Another is the growing number of retirements among the Baby Boomer generation, a generational demographic shift that's converging with a slowly accelerating economic recovery.

"It's a bit of an urban legend that unemployment gets pulled up during recoveries because people surge back into the workforce," said Dean Maki, chief U.S. economist at Barclays Capital in New York. "It's this intuitive concept that everyone wants to believe, and it has never happened."

To understand why, a refresher on the basics of unemployment-rate math is helpful.

•Who is counted as unemployed? You have to be looking for work to be counted in this group. Discouraged workers — those who haven't sought a job in the past month — aren't included.

•What is the unemployment rate? It's the number of unemployed as a percentage of the labor force.

•What's the labor force? It's the number of people 16 and older classified as either employed or looking for work. That excludes people who have retired, have stopped working to raise children or are so-called "discouraged workers."

Economists focused on where the unemployment rate is headed pay close attention to another number: the labor force participation rate. That's the labor force as a percentage of the civilian population not in penal or medical institutions.

In January, the labor force participation rate was 63.7%, the lowest in 30 years. It was more than 66% in early 2008, near the start of the recession.

If employment stays the same, a lower participation rate drives down the unemployment rate. If employment gains rise and the participation rate falls, the unemployment rate falls even more.

If the participation rate had stayed at 66%, the economy would have needed 5.1 million more jobs to reach today's unemployment rate. And if the labor force had grown about as fast as mainstream economists expected, job gains since early 2010 would have been too little to reduce the jobless rate from the 9.8% level reached in February 2010, when net job losses from the recession finally ended.

History is another reason some economists question how much credit to give improving business for falling unemployment. In the 1983-1984 recovery from the second-biggest post-World War II recession, a U.S. economy 40% smaller than today's created 7.1 million new jobs. Unemployment went from 10.8% in late 1982 to 7.4% by Election Day in 1984, as labor-force participation rose 0.3 percentage points to 64.4%.

This recovery's job growth is "not a big accomplishment, because the economy is so much bigger, and more people were put out of work," said Steven Ricchiuto, U.S. chief economist for Mizuho Securities. "There should be a stronger snapback."

The unexpectedly low unemployment rate is already having a favorable impact on President Obama's re-election prospects, says Joel Naroff, president of Naroff Economic Advisors, who thinks unemployment could reach 7.6% by the end of the year.

"If my forecast is correct, President Obama gets re-elected," Naroff said.

Questioning conventional wisdom

During the recession and afterward, economists said the economy needs to add at least 150,000 jobs a month to keep up with the natural growth in population and labor force. That's why, with the economy averaging about that many added jobs last year through November, many economists thought unemployment would stay around 8.5% through November.

Now that view is coming into question.

Inflated estimates for labor force growth are why unemployment forecasts have proven to be too high, insist a group of economists that, until recently, have been a minority.

Among the most prominent has been Barclays' Maki. His argument has long been that Boomers swelled the workforce when women born between 1946 and 1964 sought jobs in unprecedented numbers. Now that the first Boomers are reaching retirement age, he says, their retirements will keep the work force lean.

He sees the unemployment rate falling to 7.8% by the end of the year, and 7% by 2013. That's based on his forecast that the economy will add 200,000 jobs a month through 2012 and the labor force participation rate will hold steady, as fewer workers to return to job-hunting than others think.

Until last month's better-than expected jobs report, economists were almost universally pessimistic about the unemployment rate improving much this year.

USA TODAY's survey of 48 private economists in January found the median forecast was for 8.4% unemployment in the fourth quarter. The Congressional Budget Office predicted 8.9%, also in January. The Federal Reserve said Jan. 26 that its policymakers saw joblessness at 8.2% to 8.5% through the end of the year, a forecast Fed chairman Ben Bernanke reinforced when he appeared before Congress last week.

"The decline in the unemployment rate over the past year has been somewhat more rapid than might have been expected, given that the economy appears to have been growing during that time frame at or below its longer-term trend," Bernanke said. "Notwithstanding the better recent data, the job market remains far from normal."

Bernanke reflected the views of the Fed's expert staff. Economists at the Federal Reserve Bank of New York wrote in December that the decline in labor force participation during the recession was faster than the aging work force alone could explain, raising a chance that the percentage of potential workers actually seeking employment would rise by about a percentage point to 65% by next year.

Short-term stay-at-homes

Economists don't have any one reason for why the labor force is growing so slowly, or a very clear agreement on whether that will change.

In the short run, cyclical factors are holding down participation. The tough job market, and difficult climate for wage gains, has led laid-off white-collar workers to go back to school, such as former office furniture salesman Frank Barszcz, or stay home with small children, such as Liz Miller Boose, a corporate librarian-researcher who left a contract position with McKinsey in 2008.

Both Barszcz, 58, and Miller Boose, 40, said working spouses, the economy and a nagging sense that the weak job market was a signal to do something else persuaded them to leave the workforce for years. Barszcz, who lives in West Orange, N.J., persuaded New Jersey officials to bankroll his master's degree in social work, which he expects to receive in May. Miller, who lives in next-door South Orange, wanted a break from corporate work and recently accepted a part-time job at a community college after being sought out by a headhunter.

"It was clearly a bad time to look," Miller Boose said. She got pregnant three months after leaving McKinsey. "I figured I would stay home until he (son Conrad) was 1. When he was 1, it was still pretty bad — my neighbors were getting laid off. So I decided to embrace it and be a mom, and now he's 2½."

The more fundamental reason for slow work force growth is Baby Boomers' aging. Boomers drove the increase in the labor force from the 1960s on, partly because so many Boomer women worked, according to a 2009 paper from the U.S. Bureau of Labor Statistics.

Now, Boomers are hitting retirement age. Though they're more likely than seniors before them to keep drawing a paycheck, most will act like sixtysomethings of the past, and cut back. According to the BLS, by 2018 only 64.5% of Americans older than 15 will be working, even with a recovery. The U.S. will produce 20.5 million new jobs between 2010 and 2020, the BLS said last month, as 10.5 million people join the work force.

Back in the pool

Many economists who believe the work force will resume its traditionally more rapid growth think Miller Boose's story will prove typical: People will jump back in once they're convinced jobs are there, and unlike Miller Boose, will work full-time.

Until recently, that included the influential forecasting firm Moody's Analytics, which had thought unemployment wouldn't budge this year.

Moody's flipped after last month's jobless report, Chief Economist Mark Zandi said. Moody's now forecasts joblessness will average 8% in the fourth quarter, and be below 8% by the end of the year. It also thinks the economy will add as many as 175,000 jobs a month, up from the 140,000 Moody's had forecast before the last report, Zandi said.

"Labor force growth will be weaker for longer," Zandi said.

Some staffers at the Fed are embracing the idea that the labor force will shrink. A paper from the Chicago Federal Reserve Bank published this month says "labor force participation will be lower in 2020 than it is today."

How fast unemployment falls by Election Day is open to debate. Indicators such as consumer confidence are improving, which economists think will make once-discouraged workers more optimistic, possibly boosting the unemployment rate as they begin looking. But the economy still has almost four unemployed workers for every opening, which will keep confidence from rising quickly.

Short-term factors might not be that important to the people on the sidelines, Maki argues. More than half of those who left the work force since 2008 are 55 or older — and they're not coming back, he said.

"We're not seeing what (economists) often assert that we'll see, a surge of re-entrants," Maki said. "It's not in the data."