Surprising Jobless Decline Gives Bernanke Little Cheer

The surprising drop in unemployment to the lowest level in more than five years gives Federal Reserve Chairman Ben S. Bernanke little to cheer about.

Employers in December expanded payrolls at the slowest pace in three years, and workers leaving the labor force accounted for much of the plunge in the jobless rate to 6.7 percent from 7 percent.

The data highlight a flaw in policy makers’ strategy of setting 6.5 percent unemployment as a threshold for considering whether to raise interest rates, said Stephen Stanley, the chief economist at Pierpont Securities in Stamford, Connecticut.

“Even they would admit in retrospect that was not the right thing to do,” said, Stanley, a former economist at the Richmond Fed. “The unemployment rate has gone down much faster than anyone imagined, but it’s been almost exclusively because of shrinking labor-force participation, which is not a good thing.”

The Fed probably won’t alter the threshold, according to a Bloomberg survey of economists after today’s jobs report. Economists also predicted the Fed will stick to its strategy of gradually reducing monthly asset purchases.

Seventy-three percent of 41 economists said the 6.5 percent threshold will remain. Twenty-two percent said the Fed will alter it, and 5 percent said it will be dropped entirely.

Economists in the survey said the Fed will reduce asset purchases by $10 billion at each of the next six meetings this year before announcing and end to the program no later than December.

2012 Statement

The Fed tied its target interest rate to economic indicators in December 2012 with a statement that the rate would remain near zero at least as long as unemployment exceeded 6.5 percent and the outlook for inflation didn’t rise beyond 2.5 percent.

At their Dec. 17-18 meeting, Fed officials considered lowering the unemployment threshold to 6 percent, according to minutes of the gathering released this week. Instead, the Federal Open Market Committee decided to emphasize that rates would remain low even after the jobless rate declined to 6.5 percent.

In its post-meeting statement, the committee said it “likely will be appropriate to maintain the current target range for the federal funds rate well past the time that the unemployment rate declines below 6.5 percent.”

Policy makers “generally” saw “the benefit of avoiding tying the committee’s decision too closely to the unemployment rate alone,” the minutes said.

Distancing Themselves

Officials “will continue to further distance themselves from the whole thresholds framework,” Stanley said.

Richmond Fed President Jeffrey Lacker said today the economic outlook has evolved since the FOMC implemented its thresholds.

“We put the threshold out there at a time when the committee was interested in conveying a strong sense of how they behave. The situation is different now,” Lacker said to reporters after a speech in Raleigh, North Carolina.

“The committee in December strengthened its forward guidance with as light a touch as it could, by saying that they expect low interest rates well past the time at which we get to 6.5,” he said.

December’s 6.7 percent jobless rate is the lowest since October 2008. Economists in a Bloomberg survey before today’s report forecast the rate would stay at 7 percent.

Dropping Out

The decline came as workers quit the labor force, falling off the rolls of people who are counted as either employed or unemployed. The share of Americans in the labor force declined to 62.8 percent, matching the lowest level since March 1978.

When policy makers first set the 6.5 percent threshold, they forecast the rate wouldn’t hit that level until mid-2015.

“They’d debated this and come to the collective judgment that the unemployment rate is the single best measure of the labor market,” said Julia Coronado, chief economist for North America at BNP Paribas in New York and a former Fed economist. “The data seem to suggest otherwise.”

Other points of data in the jobs report weakened, underscoring how falling unemployment doesn’t necessarily signal labor-market strength. The average work week fell six minutes to 34.4 hours. Average hourly earnings rose 1.8 percent in the past year, below economists’ estimates for growth of 1.9 percent.

“I don’t want to call it a mistake, but it was based on a historical relationship between the unemployment rate and the economy that no longer holds,” Coronado said. “It probably would be helpful if they added, rather than one simple threshold, a more complete description of the indicators they’re looking at.”

Cold Weather

Unusually cold weather may have distorted the payroll report. The figures based on the government’s survey of households showed 273,000 Americans weren’t at work because of weather during the survey week, which last month included Dec. 5, the most for any December since 1977, the Labor Department said.

Last month was the coldest December since 2009, and snowfall was 21 percent above normal, according to weather-data provider Planalytics Inc. The second week of December was the coldest for any comparable period in more than 50 years, the firm said.

Such distortions may make Fed officials reluctant to alter their strategy to unwind their purchases of bonds, according to Michael Gapen, a senior U.S. economist at Barclays Plc in New York.

The FOMC in December took the first step in slowing the program, cutting monthly purchases to $75 billion from $85 billion. Bernanke said in a press conference that the Fed would probably reduce the pace of purchases at each meeting this year. Officials plan to gather Jan. 28-29 in Washington.

“You have to have a very good reason to change the taper process in one way or another,” said Gapen, a former Fed economist. “They are likely to conclude a lot of this softness in payroll gains was due to weather.”

(Corrects description of survey results in seventh paragraph of story published Jan. 10.)
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