The unemployment rate is one of the most widely used indicators for measuring the business cycle and labor market conditions. However, it is subject to the problem of being affected by demographic changes over the medium- to long-term horizon. For example, when population aging takes place, the total unemployment rate falls regardless of the business cycle, as the youth group with its relatively high unemployment rate decreases and the elderly group with its relatively low unemployment rate increases. In particular, when the population is aging rapidly, as in Korea, demographic changes should be revised to more clearly assess the slack in the labor market.

Against this backdrop, this article estimates an adjusted unemployment rate reflecting demographic changes, using a dynamic factor model (DFM). The results of the DFM-adjusted unemployment rate show that demographic changes for the past 20 years have pulled the unemployment rate down by 0.4%p. The effect of population aging (direct effect) has worked to lower the unemployment rate by 0.5%p, while an increase in participation in economic activity led by women aged 50 or higher (indirect effect) has acted to increase the unemployment rate by 0.1%p. Therefore, when comparing unemployment rates between different time periods, the unemployment rate of the early 2000s should be revised downward by 0.2%p, and the recent unemployment rate should be adjusted upward by 0.2%p before comparison. In addition, estimations of the future population suggest that demographic changes will take place faster going forward. This should therefore be considered when interpreting trends of the unemployment rate. Taking into consideration only changes in the proportion of the population, that is, the direct effect, downward pressures on the unemployment rate are expected to be greater for the next 20 years (0.6%p) than for the previous 20 years (0.5%p).

Meanwhile, the unemployment rate has showed a trend of increase over the past 10 years despite population aging acting as a downside factor. This is assessed to be attributable to the greater role played by factors inherent to the labor market, such as expanded economic participation generally, and increased mismatch unemployment in line with changes in the economic structure, relative to downward pressures on the unemployment rate from demographic factors.