Yellen and the Fed, On Target
In itself, today's slight uptick in the unemployment rate isn't significant. Hiring went up a little less than economists had expected. On the other hand, labor-force participation improved a bit -- a more encouraging sign. The underlying message didn't change. The labor market is improving, but still has a way to go.
Where does this leave monetary policy? The Federal Reserve refreshed its guidance Wednesday, after its monthly meeting. The new statement disappointed one member of its policy-making committee. Charles Plosser, president of the Philadelphia Fed, voted against stating that interest rates would probably remain at zero for "a considerable time after the asset purchase program ends."
This wording on interest rates, unchanged from the month before, is the Fed's way of reassuring markets that monetary policy isn't about to be tightened as the recovery proceeds. Quantitative easing will taper away between now and October, but interest rates aren't about to rise. Plosser thinks the risks are shifting. He also thinks the Fed is wrong to follow a schedule that "does not reflect the considerable economic progress that has been made toward the committee's goals."
His concerns make sense but not his conclusion. He's right to worry about inflation -- that's the Fed's job -- and right that information, not schedules, should dictate policy. However, the evidence doesn't say inflation is rising too fast. On balance, it actually calls for more easing -- meaning an extension of QE beyond its expected end in October.
As Plosser says, it would be better to put less weight on timetables and more on new information. The question is, which information? At the end of 2012, the Fed adopted a threshold for the unemployment rate: It said it wouldn't tighten monetary policy while the rate was above 6.5 percent. That didn't last because the rate fell quickly, even as slack in the labor market persisted. The threshold was dropped earlier this year, and the Fed now talks more vaguely about "labor-market conditions."
Fed Chair Janet Yellen is rightly preoccupied with labor-market slack, but it would be good to have a better way of measuring it. An International Monetary Fund report on the U.S. economy, released last month, makes a useful suggestion.
The first chart shows different standard measures of unemployment. The broadest count is called the U-6 rate: It includes not just the short-term and long-term unemployed (making up the headline rate) but also people working part-time who'd rather work full-time and the so-called marginally attached (people who want and are available for work but who've stopped looking). Even though it's come down, this comprehensive measure is still much higher than before the recession.
Unfortunately, it's unclear how many of the long-term unemployed or marginally attached will eventually get jobs. The second chart therefore approaches the question in a different way. It measures the so-called employment gap -- the difference between actual employment and equilibrium employment, taking into account trends in labor-force participation and allowing for involuntary part-time work. In effect, it's the sum of excess unemployment, excess part-time employment, and the reversible shortfall in labor-force participation -- a comprehensive measure of labor-market slack. According to the IMF's calculations, there's still plenty, and it isn't about to evaporate.
One more thing to watch is wages. As the Fed reported to Congress last month, they're flat. So forget the timetables. With lots of labor-market slack -- headline unemployment notwithstanding -- and no sign yet of wage-cost pressure on prices, the relevant facts say keep monetary policy loose.
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