Mikalstermach, James Kensett and Philip Schnuttinger
economist Frequently Use the vacant to unemployment (v/u) ratio (v/u) ratio to measure labor market tension. Labor market analysis during current periods of inflation often assumes a constant V/U ratio and compares this measure with pre-2019 equilibrium. However, the V/U ratio has risen over the last few decades. We investigate the effects of changes in vacancies mail costs on equilibrium labor market tensions via two models of lenses. Empirical error correction model. A simple, structural “search and matching” model. Raw v/u ratios can be misleading to conclusions about labor market strength. We provide an overview of the VU gap, an improved measure. This shows that the UK labour market has returned to a broadly balanced position in H2024.
Chart 1: Vacancy rate and V/U ratio have been on an upward trend over the past 40 years
Source: Bank of England’s “Millennium Macroeconomic Data” and ONS.
By standard Search and Matching Model Companies list vacant seats until the average cost of filling vacant space equals the expected benefits from hiring workers. Employment is expensive, so you can consider posting vacant seats as an investment decision. This will result in hiring additional workers being dependent on the profits expected from filling the vacancies with the company. Using this framework, we can consider several reasons why vacancy is structurally high, as suggested in Chart 1.
- Growth in labor productivity. Increased productivity increases the value of your job asset and encourages job creation. Others equally, an increase in the marginal product of labour would be associated with a higher demand for labour.
- Changes in match efficiency. A matching increase in efficiency could tempt businesses to post more vacant seats.
- Low cost of vacant ads. This allows businesses to post more vacant seats or live longer if they don’t. This could result in an increase in the number of vacancy and a corresponding decrease in the strength of adoption.
The first two explanations reflect authentic labor demand and supply, while the third explanation may also be related to changes in behavior and structural changes in recruitment patterns. For example, the low cost of advertising could encourage companies to be more noisy in finding the right candidate. We find evidence to support it: From three weeks in the 1990s to nearly seven weeks today, the average job offer period has doubled in recent decades.
Based on these foundations, we develop a new approach to estimate equilibrium level vacancy (v*) by utilizing vacancy cost data. The Quarterly Advertising Association (AA) and Warc Expense Report dataset goes back to 1982. This provides an estimate of UK advertising spending on recruitment. You can observe the shift from the composition of spending in real terms (chart 2) to traditional ads (payperword ads for print media) to online-based job boards (payperposts) and social media platforms (using pay-per-clicks or free lists). The advent of online platforms coincided with a sharp decline in total spending in the late 2000s, driven primarily by the collapse of print media advertising following the global financial crisis (GFC).
Chart 2: Composition of actual total spending on recruitment ads
Source: AA/WARC Expense Report, ONS and Author Calculations.
Use these data to create a new index of average vacancy costs (Chart 3). Each vacant seat indicates that the actual unit cost has decreased by more than 80% since 2000. Its main driver is the low cost of online advertising. For example, in the early 2000s, internet jobs were posted at the cost of monster.com. Less than 5% Despite higher coverage from online recruitment, the times of advertising. Since then, differences between online and newspaper job postings may have grown even further, with Monster.com having up to USD 1,000 in 2023. In reality, platforms like Linkedin are still billed for premium placements, but many people allow free basic job listings based on the same effectiveness as companies using their in-house job boards. Over time, recruitment spending could also be migrating to direct advertising, third-party recruiters, campus recruitment, and other channels. This means that the data we use probably represents the upper limit of the impact of lower unit vacancy costs.
Chart 3: Since 2000, average seat vacancy costs have dropped by virtually more than 80%
Source: AA/WARC Expense Report, ONS and Author Calculations.
Estimation of the equilibrium level of vacancy and v*/u*
We test the relationship between observed levels of vacancy and several basic determinants via the lens of the error correction model. The baseline specification of the long-term equation regresses the changes in vacancy regarding actual vacancy costs and hourly changes in labor productivity, gaining the main drivers of the job creation curve. This set of variables indicates a co-integration relationship and can extract a measure of the equilibrium level of vacant (v*). It also controls the short-term movement of these series.
The results can then be combined with the equilibrium level of unemployment (U*). The resulting path for V*/u* is displayed along the V/U ratio observed in Chart 4. The equilibrium profile appears to capture well upward trends. It has also been fairly flat since 2018, suggesting that the past six years constitute a reasonable benchmark to assess the strength of the labor market within the current “establishment.” Qualitatively, this coincides with the long-term labor market slack advance following the GFC and the modest margin of tension between 2018 and 19.
Chart 4: Observed V/U ratio and its estimated equilibrium level
Source: AA/WARC Expense Report, ONS and Author Calculations.
Another approach: Search and matching models
To provide sensitivity checks for the empirical error correction model, we use an alternative approach that uses Beveridge and Job Creation Curves, based on the basic theory of the Diamond-Mortensene Pissalides (DMP) model. This model is adjusted to the UK unemployment rate with vacancies normalized to fit the measured vacancy.
This model investigates the effect of lower vacancy costs on vacancy unemployment equilibrium (Chart 5). A lower unit vacancy cost leads to higher net profits by hiring workers, assuming productivity and other variables remain unchanged. Graphically, this rotates counterclockwise in the job creation curve, ensuring that vacancy is higher at certain levels of unemployment. The new job creation curve forms a new equilibrium with the unchanged Beveridge curve with a high V/U ratio. As shown in Chart 5, this calibrated DMP model fits data from UK wells.
Chart 5: Bevariage curve and job creation curve in high-cost and low-cost structures
Source: AA/WARC Expense Report, ONS and Author Calculations.
Impact of Slack on Understanding
Based on the results above, we believe that the VU gap provides a more rational representation of labor market tension than both the raw V/U ratio and the vacancy rate shown in chart 1.
Point estimates of the empirical error correction model suggest closures or slightly negative VU gaps in the third quarter of 2024. The alternative measure of labor demand also supports the photograph by the Bank of England’s agents’ difficulty recruiting measures return to the level they were last seen in 2017. Our results suggest that the UK labour market is currently in a broad balance in an absolute sense.
Michal Stelmach and James Kensett work in the bank’s current economic situation division. Philip Schnuttinger I work in the Structural Economics division of the bank.
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