Immigration Has Boosted Labor Force Participation, Helping Growth and Hastening Rate Cuts

In recent days, Fed Chair Jay Powell and New York Fed President John Williams have publicly highlighted signs of cooling in the labor market—signs that support the case for a long-awaited rate cut as early as September.

One factor they did not highlight, but which we do here, is improvement in the labor force participation rate (LFPR).

A rising LFPR increases the supply of available labor from the general population, and thus holds down its cost. Since June 2020, with the rapid early spread of Covid, the LFPR has risen from 60.8 percent to 62.7 percent, with a particularly notable uptick in the last four months.

Largely unnoticed, however, has been the contribution of immigration to labor-market cooling.

Since President Biden took office in January 2021, the adult foreign-born population of the United States has grown by over 5 million. The share of immigrants in the adult population has risen from 16 percent to 18 percent.[1] 

Immigration has an outsized effect on the labor pool because the foreign-born are far more likely than the native-born to participate in the labor force.

At the start of 2021, the foreign- and native-born LFPRs were 64.2 percent and 60.9 percent, respectively. And since then, as shown in the left-hand graphic above, the foreign-born LFPR has grown by a whopping 2.2 percentage points—far more than the 0.9 percentage-point growth in the native-born LFPR. Today, the foreign-born LFPR, at 66.4 percent, is nearly 5 percentage points higher than that of the native-born, at only 61.8 percent.

Without both the increase in the share of foreign-born in the population and the increase in the foreign-born LFPR, the overall LFPR would, as shown in the right-hand graphic above, today be only 62.2 percent—a substantial half a percentage point lower than the actual 62.7 percent. Though immigrants constitute only 18 percent of the adult population, they account for a much larger 40 percent of the rise in the LFPR.

What does the positive contribution of immigration to the LFPR mean, from an economic standpoint?

It firstly means higher GDP growth. Based on estimates from the Council of Economic Advisors on the relationship between the LFPR and growth, a half-percentage point rise in the LFPR raises potential GDP by an equivalent amount. If this estimate is even vaguely accurate, GDP growth has been materially better since 2021 than it would have been without immigration.

It secondly means lower inflation. All else equal, a rising LFPR relieves tightness in the labor market, lessening cost pressures on companies and price pressures on consumers. Without the contribution of immigration in recent years, therefore, the start of Fed’s rate-cutting might well be further away than it now appears.