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Jackson Hole Theme: Labor Markets Can’t Take Higher Rates

U.S. Fed Chair Janet Yellen & ECB President Mario Draghi
Janet Yellen, chair of the U.S. Federal Reserve, left, speaks with Mario Draghi, president of the European Central Bank, during the Jackson Hole economic symposium, sponsored by the Kansas City Federal Reserve Bank, at the Jackson Lake Lodge in Moran, Wyoming, on Aug. 22, 2014. Photographer: Bradly Boner/Bloomberg

Global central bankers led by Federal Reserve Chair Janet Yellen said labor markets still have further to heal before their economies can weather higher interest rates.

Even as they signaled international monetary policies are set to diverge as economic recoveries increasingly differ, officials meeting over the weekend in Jackson Hole, Wyoming, placed jobs at the center of their decision making by saying stronger hiring and wages are still needed to drive demand.

The focus on jobs suggests the Fed and Bank of England will tighten policy within a year as their economies show signs of strengthening. By contrast, European Central Bank President Mario Draghi and Bank of Japan Governor Haruhiko Kuroda acknowledged they may be forced to deploy fresh stimulus.

Making her debut as Fed chief at the annual central bankers’ conclave in the shadow of the Teton mountains, Yellen said while U.S. hiring has improved and the debate at the Fed is shifting toward when “we should begin dialing back our extraordinary accommodation,” there is still a “significant” underuse of the workforce, and the labor market has yet to fully recover from the worst recession since the Great Depression.

Advanced Argument

She advanced her argument that assessing the health of the job market must depend on indicators beyond the main unemployment rate, which has fallen to 6.2 percent from a post-recession peak of 10 percent. She cited the Fed’s Labor Market Conditions Index, which includes 19 data points, such as the labor force participation rate and the number of workers who are employed part-time because they can’t find full-time jobs.

Yellen’s message was “there is room for debate over how much slack, as we say, is in the U.S. labor market,” said former Fed Vice Chairman Alan Blinder, who now teaches at Princeton University in New Jersey. “But in her view, as she looks at all the evidence, the case is close to overwhelming that there is a significant amount left.”

Blinder said there’s a “vigorous debate” among economists and investors about how sluggish the labor market still is. Its surprising strength suggests “we are closer to Fed liftoff than we were a year ago” and rates probably will be increased early next year, he said.

Interviews with other Fed officials in Jackson Hole showed a widening split over the outlook.

Earlier Tightening

Fed Bank of St. Louis President James Bullard said monetary policy may be tightened earlier than officials previously expected. Kansas City Fed President Esther George said broad-based employment gains suggest the economy is strong enough to withstand higher interest rates. Philadelphia’s Charles Plosser said he would prefer to raise rates earlier and more gradually than to have to do so quickly.

At the same time, Atlanta Fed President Dennis Lockhart said conclusions about the strength of the economy have to be taken as “tentative” and that he was “one of those who’s thinking in terms of the middle of next year” for the first rate increase. San Francisco Fed President John Williams echoed that time frame.

Unlike Yellen, and with euro-area unemployment at 11.5 percent, Draghi said ECB policy makers “stand ready to adjust our policy stance further” after the 18-nation economy stalled in the second quarter.

Mounting Concern

In a sign of mounting concern over too-low inflation, he said investor bets on inflation had “exhibited significant declines at all horizons” this month. Price gains are running at less than a quarter of the ECB’s goal of just below 2 percent, potentially risking a deflationary spiral if consumers and companies pull back spending in anticipation of even weaker price pressures.

Draghi’s remarks reinforced speculation that the ECB will eventually start quantitative easing even after acting in June to cut interest rates to record lows and line up more cheap loans for banks.

The ECB president nevertheless expressed confidence his current package of policies would work and urged governments to step up with easier fiscal policies where possible, as well as to make their economies more flexible.

Other central bankers at Jackson Hole expressed no hurry to tighten monetary policy. Bank of Japan’s Kuroda told reporters that he will keep policy easy until price stability is achieved and would shift tack if inflation softens.

‘Significant Improvement’

He told the conference that while unemployment had fallen to 3.7 percent and the Japanese labor market is “showing significant improvement,” there are still “important challenges to be addressed” in the form of weak wage growth and a reliance on part-time work.

To address potential labor force shortages in the future, “utilization of foreign workers also deserves consideration,” he said, according to a text of his speech posted on the central bank’s website.

Meantime, Bank of Canada Governor Stephen Poloz said in an interview that his country’s labor market isn’t creating the full-time jobs and income that could be expected in a recovery, handing him scope to keep interest rates near historic lows. Canadian unemployment was 7 percent in July.

“We’re confident there’s quite a bit of room to grow,” he said.

Gradual Increases

As for the U.K., Bank of England Deputy Governor Ben Broadbent suggested rate increases there will be gradual as he said officials “have tried to communicate that the path of interest rates that’s likely to be necessary to meet our mandate is going to be materially different” than in the past. Broadbent used the conference to argue the financial crisis has changed the economic landscape and central banks must now consult labor-market data to better assess inflation.

The focus of policy makers was in keeping with the symposium’s theme of “Re-Evaluating Labor Market Dynamics” and the papers presented in three days of discussions.

In his view of the meetings, “uniformly across the developed world there was a recognition that labor market conditions were far from ideal,” said Brian Jacobsen, who helps oversee $232 billion as chief portfolio strategist at Wells Fargo Advantage Funds in Menomonee Falls, Wisconsin. In the policy maker comments, “a common denominator is that interest rates are going to stay low for quite a while,” he said in a phone interview from Wisconsin.

Better Understanding

Central bankers would benefit from a better understanding of how job markets work, economist Giuseppe Bertola of EDHEC School of Business argued in his presentation. Steven J. Davis from the University of Chicago and the University of Maryland’s John Haltiwanger wrote that the U.S. labor market had become less fluid in recent decades partly because of an aging population.

Other papers sought to quell concerns. Massachusetts Institute of Technology professor David Autor argued robots and computers don’t steal as many positions as some believe, while Till von Wachter of the University of California at Los Angeles said U.S. workers haven’t experienced unprecedentedly long bouts of non-employment following the last recession.

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