The Market for Lemons


by Steve Hine

The dramatic increase in the number of people who have been unemployed long-term is a distinctive feature of the recent recession, and it will have lingering effects far into the future. Long-term unemployment – typically defined as being out of work for six months or more – imposes costs on people that go well beyond lost wages. Future earnings are lower, health is negatively impacted, and even relationships and self-esteem are damaged. These significant costs suggest the need to identify and correct the causes of long-term unemployment and the factors that reduce the likelihood of re-employment among those people who have been out of work for a long time.

 

There are a number of possible reasons that long-term unemployed job applicants are less likely to become re-employed. These might include the atrophying of skills that occurs with being out of work for so long, or the likelihood that those with more marketable skills will find employment quicker than those with less marketable skills. Another reason might be that long spells of job hunting tend to affect people over time. Job seekers become discouraged and this, in turn, can negatively impact candidates’ presentations of themselves in job interviews. The popularity of support groups and job clubs is evidence that this is a real phenomenon.

 

Yet another reason the long-term unemployed face increasing difficulties in their job searches is that employers have increasingly discriminated against them by requiring current or very recent employment as a precondition for being considered for a job. The practice has been widespread enough that the District of Columbia and 17 states, including Minnesota, had bills introduced during their 2012 legislative sessions to outlaw it. Only New Jersey, Oregon, and the District of Columbia have enacted such legislation.

 

Some of this discrimination may well be a cost-effective response to the previously identified reasons why a long-term unemployed person may indeed be a less attractive candidate. But often the practice is seen as a response to the perception that some of the long-term unemployed are simply deadbeats who haven’t tried hard enough to find work. But to engage in practices that exclude the millions of long-term unemployed who would be fully qualified and capable candidates from consideration is costly—both to the long-term unemployed, and to the economy that now loses out on their productivity.

 

In 2001, George Akerlof won the Nobel Prize in economics in large part for an article titled “The Market for Lemons: Quality Uncertainty and the Market Mechanism.” In this article he argues that in the market for used cars, buyers’ inability to distinguish quality cars from defective “lemons” results in a lower price being offered for all used cars, and that many transactions that would have occurred in the presence of better information do not occur. Akerlof’s analysis and its impact on the used car market might also be applied to the labor market and, in particular, to the pool of long-term unemployed.

 

If there is any chance, either real or simply perceived, that a hire from the pool of long-term unemployed could turn out to be a “lemon,” then employers will be less willing to use the long-term unemployed as a source of candidates. The end result is that hires that would be good for both the employer and job seeker do not occur, and society as a whole suffers an efficiency loss.

 

One mechanism through which we correct these inefficiencies in the used-car business is the used-car warranty. Although new hires may not come with a warranty, job interview, reference checks, probationary periods and other practices common in human resource management are meant to serve as similar devices. Job seekers are also instructed to demonstrate initiative through volunteer work or other activates during their unemployment spells in order to demonstrate their “high quality.” Part of the solution should also be the recognition that “lemons” truly make up a small, if not insignificant, share of the nearly five million long-term unemployed.

 

A version of this article first appeared in the December 2012 issue of Minnesota Economic Trends, a publication of the Minnesota Department of Employment and Economic Development (DEED).

 

Dr. Steve Hine is the director of the Labor Market Information Office at DEED. 

 

 

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