The Coming Storm: The Long-Term Harm that Unemployment Causes

This blog post was co-authored with Profs. Paul Gregg and Lindsey Macmillan and was first published on the CEPEO Blog.

In our last blog, we highlighted those who are most likely to be affected by the COVID-19 recession – young people, those from disadvantaged areas and backgrounds, and ethnic minorities, to name a few. Unemployment clearly has immediate effects on the financial situation of individuals and their households, as well as on people’s mental and physical health, while they are out of work. However, bad at this is, unemployment has effects that persist even when people get a new job. In this blog post, we discuss the long-term harm that spells, especially long ones, out of work cause. This emphasises the need for policymakers to take action to mitigate such eventualities, which we will address in the following post.

Scarring

A range of studies from around the world have tried to quantify the impact of experiencing spells of unemployment on later outcomes. These have primarily focused on wages and further unemployment, years later, but also non-financial outcomes such as mental health and wellbeing. These legacy effects of unemployment are called ‘scarring’ and may result from either a depreciation in skills and wider human capital, or because employers use previous labour market experience as a productivity signal, although this latter signalling effect may be less marked where it is evidently due to well-known and widespread event such as COVID-19. Understanding this relationship is important in the current climate because it implies there are likely to be significant costs associated with unemployment caused by external shocks, such as the COVID-19 recession.

For employment: Research finds that “men who experience an extra three months unemployed before age 23 go onto experience another extra two months out of work (inactive or unemployed) between ages 28 and 33”. Using variation from local labour market conditions, this is shown to be a causal effect of early labour market unemployment experiences.

For wages: Evidence shows young people experiencing spells of unemployment earn about 6% less than we would otherwise have expected when they do manage to return to work, and around 14% less three years later. Other research from Britain documents similar findings and note that those who manage to go on to have sustained employment are able to reverse this wage penalty. Further work has highlighted the wage decline after job loss for men of all ages is around 10% plus just under an additional 1% for every month spent out of work. The initial impact is regained over the next three years but the duration penalties are not recouped. Longer periods of unemployment really do sustained damage.

The picture here then is that lower job stability and lower wages are connected and both result from unemployment exposure, especially if it is early in the career.

Unequal effects of leaving education during a recession

Much research has also directly considered the effects of leaving school/college during recessions. In the US, research finds that college graduates leaving education into a labour market with a 1%pt. higher unemployment rate earn 7% lower wages: this negative effect declines over the coming years but remains at 2.5% fifteen years after graduation. More recent work finds similar effects from school leaving/graduating in the 2008-09 recession in the UK, noting greater effects for those with less education. It has also been shown that men leaving full-time education into a labour market with “a one-point higher unemployment rate reduc[es] the probability [of being in a job in the next year] by almost 2 percentage points”; results for women are rather more mixed, but are substantially less negative.

By contrast, for those leaving school before college, there are persistent reductions (lasting at least 10 years) in earnings, employment and wages from entering the labour market during a recession, and these are substantially larger for the less advantaged. Recessions make it more likely for workers to begin their careers at lower-paying employers, and a key way that some manage to catch-up over subsequent years with peers who graduated during more prosperous times is by moving jobs to higher-paying firms. However, advantaged college graduates are much better placed to make such moves while less advantaged graduates catch up at a far slower rate, if at all.

Looking beyond wages and employment, work finds that spells out of work for youths have harmful impacts across a range of outcomes, including happiness, health, and job satisfaction, years later. The timing of the unemployment appears to be crucial, however, as spells of unemployment after age 23 have little bearing on later well-being. This emphasises the importance of considering differential effects of the COVID-19 shock on different generations. These findings appear consistently in varied contexts, too, with similar findings of long-lasting effects of unemployment on well-being in the German context and across the early 1990s, the early 2000s and the ‘Great Recession’ period.

There is a smaller related literature on the intergenerational impact of parents’ unemployment experiences on their children’s education and labour market outcomes, suggesting that any economic scarring effects from COVID-19 will have long-term implications beyond the current generation. Evidence from Norway, US, Britain, and Spain all finds negative impacts of father’s job loss on children’s educational outcomes. There’s also evidence that adult children whose fathers were displaced due to firm closures experience wages that were 9% lower than those whose fathers did not experience an employment shock.

Research from Britain and across Europe shows that the impact of high unemployment is particularly pronounced for those from deprived families with low levels of education: disadvantaged young people end up at the back of the queue for jobs when work becomes scarce. Scarring effects on employment and earnings are also shown to be worse for ethnic minorities.

The evidence is clear that unemployment hurts people who experience it, particularly school leavers who feel the effects for years after recessions are over and people have returned to work, in terms of future wages, job stability and health, and even for their children. The evidence is also clear that it is long periods of high unemployment that do the lasting damage. So the policy response needs to be both about job creation, and targeted help for those who experience the bulk of the duration of unemployment. We’ll highlight options in our next blog.

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