Introduction

In the next two chapters, we turn to the issue of work: do people have it and do they like it? Unemployment is another major cause of low wellbeing (see Chapter 8). It damages the individual and it often damages their family. And a high unemployment rate causes anxiety throughout the population. It also reduces the aggregate income of the community. So in this chapter, we ask four main questions:

• How does unemployment affect the unemployed individual?

• Why is unemployment so painful?

• How does high unemployment affect the rest of the community?

• What policies can reduce equilibrium unemployment?

How Important Is Work?

To begin answering this question, we can look at average differences in wellbeing between people according to their employment status. In Figure 11.1, these differences are plotted for six large countries using data from the Gallup World Poll. Here, we consider differences in life satisfaction between adults employed full-time, part-time, self-employed, underemployed, unemployed, and out of the labour force. In this case, ‘underemployed’ means working part-time but wanting to work full-time, and ‘out of the labour force’ means not having a job and not actively looking for one. This last category is mainly composed of homemakers, early retirees, students and those unable to work due to disability.

Figure 11.1

Average life satisfaction (0–10) by employment status

Note: 95% confidence intervals displayed.

Source: Gallup World Poll 2005–2019, Cantril ladder, adults 18–65.

As Figure 11.1, shows, unemployed people are less happy on average than employed people in every country. The crude difference is over 1 point (out of 10) in the United States and the UK and rather less in poorer countries. This is partly because employment classifications become less meaningful in lower-income countries. In Africa, 85% of all employment is informal. In Asia, this figure is roughly 70%.Footnote ¹ In countries without welfare states or labour protections, the concept of unemployment itself becomes much harder to define. Yet even in these regions, wellbeing differences between working and non-working adults tend to remain statistically significant.

However, looking at raw differences alone can be misleading. Averages can tell us about the distribution of happiness in a population but much less about its underlying causes. There may be any number of confounding variables that complicate the story. Relative to those who work full-time, the unemployed are, for example, more likely to be young, female and without a college education.Footnote ² All of these other differences can independently affect wellbeing. If we fail to account for them, we risk misattributing differences in happiness to differences in employment status rather than to other personal characteristics.

In the first wave of empirical wellbeing research, many researchers attempted to address this problem using cross-sectional regressions. These models typically take the form:

$W_i={\alpha }_0+{\alpha }_1\text{Employmen}{\mathrm{t}}_i+{\alpha }_2{X}_i^{\prime }+e_i.$(1)

Here, wellbeing is treated as a continuous variable and modelled as a function of employment status and a vector of controls. The coefficients α₂ represent average differences in wellbeing attributable to varying demographic characteristics including income, education, marital status, age and so on. The coefficient α₁ then estimates the extent to which any remaining variation in wellbeing can be explained by differences in employment status. In other words, α₁ measures the psychic impact of unemployment.

Using this approach, Helliwell analysed global data from the World Values Survey. In this case, jobless adults were found to be 0.6 points less satisfied with their lives than full-time employees on a 10-point scale, other things equal.Footnote ³ By contrast, a halving of income (which unemployed people might also experience) would have a smaller effect (see Chapter 13).

But cross-sectional estimates produced by OLS are still only capable of telling us about average between-person differences. Even with the addition of control variables, there are still two important potential sources of bias to consider:

• Omitted variables: For example, happiness can be influenced by unmeasured genetic or personality traits:Footnote ⁴ those who become unemployed may simply be predisposed to be unhappy.

• Reverse causality: Happiness itself affects labour market outcomes.Footnote ⁵ If unhappiness precedes unemployment, it would be a mistake to conclude that the latter causes the former.

To counter these biases, researchers look at changes in happiness experienced by workers before, during and after becoming unemployed using fixed-effects regressions. Instead of comparing adults with jobs to adults without them, fixed-effects regressions estimate the effect of unemployment by comparing people who become unemployed to their former selves. Running these types of analyses requires panel data in which the same people are surveyed multiple times over a given period of time. These models typically take the form:

$W_{\mathit{it}}={\alpha }_0+{\mathrm{\alpha }}_1\text{Employmen}{\mathrm{t}}_{\mathit{it}}+{\mathrm{\alpha }}_2{X}_{\mathit{it}}^{\prime }+f_i+{\mathrm{e}}_{\mathit{it}}.$(2)

Here, the wellbeing of an individual i at time t is modelled as a function of employment status and control variables. However, in this case, $f_i$ is introduced to capture unobserved time-invariant individual effects, like genetic or personality traits. As a result, we are no longer considering between-person differences but rather within-person changes. The coefficients for all variables included on the right-hand side of the equation then represent the effect of transitioning from one state to another – for example, employed to unemployed, childless to parent, single to married. In this way, we can estimate the wellbeing impact of changes in life circumstances from one period to the next.

Early versions of this approach were presented by the economists Liliana and Rainer Winkelmann, using large-scale representative data from the German Socio-Economic Panel (SOEP).Footnote ⁶ The authors found that unemployment lowered life satisfaction by roughly 1-point on a scale from 0 to 10. To put this effect into context, it is roughly analogous to the drop in happiness associated with becoming widowed.Footnote ⁷

To see how this works over time, the effect of unemployment on life satisfaction is plotted for German workers using SOEP data in Figure 11.2.Footnote ⁸ These effects are estimated using fixed-effects regressions controlling for age, nationality, level of education, income, number of children, health and marital status. Measures of life satisfaction are then normalised relative to a baseline level recorded five years prior to workers losing their jobs. For both men and women, unemployment substantially reduces life satisfaction on top of the effect through lost income. The negative effect of unemployment is roughly 30% larger for men than women, a trend generally reflected in the literature.Footnote ⁹ Importantly, workers who remain unemployed for longer periods of time struggle to improve their happiness. Even after four years, men and women who lose their jobs are still as unhappy as when they first became unemployed.

Figure 11.2

Effect of unemployment on life satisfaction (0–10) over time (Germany)

Note: Estimated using fixed-effects (within-person) regressions. Controls included for age, nationality, education, income, number of children, health and marital status. Levels are normalised relative to the baseline happiness level recorded five years before becoming unemployed; 95% confidence intervals displayed.

Source: De Neve and Ward (2017); SOEP data

Broadly similar results have been found in Britain, the United States and AustraliaFootnote ¹⁰ – as well as Russia,Footnote ¹¹ South KoreaFootnote ¹² and Switzerland.Footnote ¹³ The psychic effect of unemployment is large and there is little adaptation. Given the high degree of adaptation observed in response to many other life events, the lack of adaptation to losing a job is notable.Footnote ¹⁴ In fact, when the passage of time is taken into account, the cumulative negative effect of long-term unemployment is greater than the long-term impact of becoming married, divorced, widowed or having children.Footnote ¹⁵

But does the impact of unemployment differ between workers who choose to leave their jobs and those who become unemployed for reasons outside their control? While quitting is an endogenous driver of unemployment, redundancy is exogenous. So it is interesting to look at the two groups separately. An analysis of this type in Germany found that workers who lost their jobs due to company closures experienced declines in wellbeing (0.8 points) that were larger than those who resigned from their jobs (0.6 points), although the effect for both groups was statistically significant.Footnote ¹⁶ At the same time, self-employed workers who had to shut down their business experienced the largest declines overall (1.5 points).

Given this weight of evidence, the substantial negative impact of unemployment on wellbeing is widely regarded to be one of the largest and most robust findings to emerge from empirical happiness research.

Scarring

But is that all, or do unemployed people continue to have reduced wellbeing even after finding new jobs? In some studies, unemployment has been shown to have lingering effects on wellbeing after returning to work. In a seminal analysis, a team of researchers examined the effect of the fraction of the previous five years that had been spent in unemployment. For every year that a person had been unemployed in the previous five years, people were on average 0.1 points (out of 10) less happy.Footnote ¹⁷ Taking a longer-term perspective, two studies of British workers in the United Kingdom find that spells of youth unemployment predict lower levels of life satisfaction well into adulthood.Footnote ¹⁸ These results again remain significant after controlling for a host of personal, parental and childhood characteristics. Along similar lines, young people who come of age during a recession (rather than a boom) care more highly in later life about their financial security.Footnote ¹⁹

What are we to make of these effects? One possible interpretation is that workers who spend longer periods of time unemployed become more insecure about losing their jobs in the future. By this account, it would be job insecurity itself that drives down wellbeing. Some authors have noted that once feelings of job insecurity are accounted for, the effect of past unemployment on wellbeing does become much weaker.Footnote ²⁰ However, in a more recent test, a team of researchers have studied retired people, for whom job insecurity is not an issue. They found that people who retired from a position of involuntary unemployment are more dissatisfied with their lives than those who retired straight from work.Footnote ²¹ This effect goes beyond what may be expected from losses in retirement income and looks like a direct effect on mood and outlook.

Why Is It So Painful To Be Unemployed?

But why is unemployment so painful? One obvious answer might be the loss of income. But we have already taken this into account. And in fact we can easily compare the size of the non-pecuniary effects with those of the pecuniary effects.Footnote ²² These comparisons have been done by a number of authors, all of whom found the non-pecuniary effects to be more than the pecuniary effects. For example, one widely cited analysis found them to be twice as large, and this is a typical estimate.Footnote ²³ So the costs of unemployment go far beyond the income loss.

The seeds of this realisation were planted in the academic literature as far back as 1933. That year, a team of sociologists led by the husband-and-wife team of Paul Felix Lazarsfeld and Marie Jahoda published the findings of an extensive field experiment in the Austrian town of Marienthal, following a plant closure that left most of town unemployed. At the time, Austria offered generous unemployment insurance, providing workers who lost their jobs with considerable financial benefits. Yet rather than experiencing gains in wellbeing as a result of more leisure time, affected workers became increasingly despondent. Social and community life in the town quickly disintegrated. The researchers concluded that employment is not simply a pathway to income but rather something that ‘imposes a time structure on the waking day, implies regularly shared experiences and contacts with people outside the nuclear family, links individuals to goals and purposes that transcend their own, enforces activity, and defines aspects of personal status and identity’.Footnote ²⁴

Many decades later, modern theoretical understandings of employment continue to focus on three related channels through which work relates to wellbeing: (1) identity, (2) social network and (3) routine.Footnote ²⁵ We will dive into the empirical evidence for these channels in greater detail later in Chapter 12.

Spillovers on the Community

The community

The final – and most important spillover from unemployment – is on the population at large. High unemployment makes everyone feel less secure, even if they have a job. For, if unemployment is high and you lose your job, you will find it more difficult to get another one. Table 11.1 reports the results of a cross-sectional analysis of data from four countries. Life satisfaction of person i is regressed on:

• first, whether the individual person i is unemployed, and

• second, the regional unemployment rate (expressed as a proportion).

As can be seen, the coefficient on own employment is less than the coefficient on the regional unemployment rate.

So how does average wellbeing in a region change when average unemployment in the region changes? The wellbeing of individual i in region r is given by

$W_{\mathit{ir}}=a_0+a_1{U}_{\mathit{ir}}+a_2{\overline{U}}_r+\mathrm{etc}$(3)

and the average wellbeing in region r is therefore given by

${\overline{W}}_r=a_0+\left(a_1+a_2\right){\overline{U}}_r+\mathrm{etc}.$(4)

In all our countries α₁ < α₂. This means that, when unemployment rises, the total loss of wellbeing is higher among employed people than among those who are newly unemployed.Footnote ³⁴

Table 11.1How life satisfaction (0–10) is affected by your own unemployment and by the regional unemployment rate (Household data, cross-section)

	Own unemployment rate (1 or 0)	Regional unemployment rate (0–1)
Britain	−0.71 (.09)	−1.38 (.56)
Germany	−0.96 (.07)	−1.58 (.36)
Australia	−0.35 (.11)	−0.37 (.42)
USA	−0.45 (.06)	−1.44 (.47)

Source: A. E. Clark et al. (Reference Clark, Flèche, Layard, Powdthavee and Ward2018) Table 4.4; slightly adapted; Understanding Society (Britain), SOEP (Germany), HILDA (Australia) and BRFSS (United States); data for many years pooled with year dummies and usual controls

Policy Implications

Clearly, we would like to reduce unemployment to the lowest level compatible with stable inflation.Footnote ³⁵ There are two main practical issues.

• The approach to redundancy.

• Active labour market policy to stimulate employment.

Conclusions

• The unemployed are generally significantly and substantially less satisfied with their lives than the employed. This relationship tends to be stronger in high-income countries where there are sharper differences between employment and unemployment.

• In studies that look at within-person changes over time, unemployment typically reduces wellbeing by at least 0.6 points (out of 10).

• Studying plant closures allows researchers to distinguish between endogenous and exogenous effects of unemployment. Workers who lose their jobs due to reasons outside of their control are generally more dissatisfied, although the effect of job loss remains negative and statistically significant for both groups.

• Longer periods of unemployment can have scarring effects with long-lasting negative implications for wellbeing even after those affected have returned to work.

• Aggregate unemployment also affects the wellbeing of people in work. This causes greater total losses of wellbeing than the loss of wellbeing on the part of the unemployed.

• The psychosocial effects of unemployment on wellbeing are greater than the effect of lost income. Policy approaches targeting unemployment are therefore likely to be most conducive to wellbeing if they are able to protect and provide for the psychological and social benefits of work, as opposed to simply providing income support.