# **_2) The impact on unemployment and poverty_**

Overall employment growth will likely decelerate over the next two years. Based on forecasted sector growth rates and each sector’s elasticity of demand for labor, Favaro, Garrido and Stucka (2009) estimate that the employment growth rate would fall to around 2.3 percent, down from the 4.6 percent average registered between 1998 and 2006. This growth estimate is similar to that of ElEhwany and El-Megharbel (2008).<sup>13</sup> However, the Favaro et.al. employment growth forecast was consistent with an overall GDP growth rate of 3.9 percent. But, since growth turned up to be higher than expected, we would need to adjust their forecasted figure. Using an elasticity of employment to output growth of 0.3, we adjust the Favaro, Garrido and Stucka employment growth forecast to about 2.8 percent (see Annex 3).<sup>**14**</sup> The downward trend of unemployment observed since 2005 began to reverse, and the adjustment might be protracted. If employment growth falls to 2.8 percent as indicated above, and the labor force maintains the average growth rate of the past few years (an average of 4.3 percent from 2004 to 2008), the unemployment rate would rise to 9.6 percent by the end of 2009, up from 8.9 percent in FY08. This estimate coincides with econometric calculations based on the historical relation between economic growth and unemployment in Egypt for the period 1980-2007. An autoregressive distributed lag model (ARDL) yields a short-run coefficient of the changes in growth of close to 0.3, implying that a drop of 2.3 percentage points in growth (from 7 to 4.7 percent) would be associated with an increase in unemployment of about 0.7 percentage points (annex 4).<sup>15</sup> Given the relatively low value of the “Okun coefficient”, as well as the low value of the elasticity of employment to output, we expect a jobless recovery.

The labor market is a cause of concern given the lower job creation rates, higher job destruction and increases in the size of the informal labor market. In addition to the effect of the sudden stop on job flows, the World Bank rapid survey (World Bank, 2009c) shows that large manufacturing firms are reducing employment more than small firms, making it likely that informal employment will increase. In emerging economies, the informal labor market expands as economic activity contracts, and hence it is countercyclical in nature (Perry et al. 2008). The expected increase in informality is

> 13 El-Ehwany and EL-Megharbel, 2008 found that a change of 1 percentage point in economic growth would lead to a change of 0.53 percentage points in employment in the same direction.

> 14 The 0.3 elasticity of employment with respect to output is estimated by means of an Autoregressive Distributed Lag (ARDL) model. Using both yearly data for 1980-2009, or quarterly data for 2003-2009, the long run elasticity decreases in value and turns statistically insignificant when a deterministic trend is introduced, and the short run elasticity is 0.1. In the quarterly model, the long run elasticity is 0.3, with insignificant short run elasticity. This elasticity is lower than that reported in the previous footnote and generally used in studies of the labor market in Egypt.

> 15Annex 4 presents the estimation of Okun’s Law, which captures an empirical relationship between changes in unemployment and changes in output growth. The estimated coefficient used in this paper is slightly lower than the .36 average reported by the IMF (2010) for a group of developed economies, and similar to the 0.3 originally estimated by Okun.

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