December Interest Rate Increase: Will the Fed Raise Rates vs. Should It
This piece originally appeared in the Wall Street Journal’s Think Tank blog.
Our friend and former colleague Jared Bernstein has mounted a small but strategic retreat in the campaign to have the Fed continue focusing on full employment. He has written that Friday’s jobs report, though not stellar, was good enough to make a December increase in interest rates a near-certainty. He then argues that this might not be the worst thing in the world:
Even while I do not see much rationale for an increase, especially given elevated underemployment and the stark lack of inflationary pressures, given their recent messaging, a non-liftoff in December would suggest the economy is a lot worse than they thought in some secret way they’ve been keeping from us. Such a negative surprise would be ill-advised.
Presuming that they won’t want to go there, it’s now all about the ‘path to normalization:’ how fast they raise. … [I]f I’m Chair Yellen, my message to the hawks is: ‘OK, you got your rate liftoff even though the data weren’t really there for it. Now back…off and let’s go back to being data-driven about future increases.’ ”
Jared is right that the larger economic question is not just about a 25-basis-point increase this month but about how rapidly interest rates climb over the next year or so. But we’re still really uncomfortable with starting lift-off before the data support it. Once you start indulging faith-based arguments about monetary policy, you’ve lowered the bar for data-driven analysis, making smart policy choices harder and harder to sustain.
And a rate increase this month would not be data-driven. The U.S. continues to create jobs fast enough to absorb new potential labor market entrants and also to work off some of the huge slack that developed during the Great Recession and its aftermath. That’s clearly good news. Eventually, provided we let it continue, that would pay off in full employment. But that payoff is still far off. The prime-age employment-to-population ratio (defined as the share of adults ages 25 to 54 who have a job) has recovered less than half of its peak-to-trough fall during the Great Recession. Worse, this measure was flat between January and October of this year; this month’s data edged up 0.2 percentage points–a nice bump, but it’s too early to declare a new upward trend.
Employment-to-population ratio of workers ages 25-54, 2006-2015
Source: EPI analysis of Bureau of Labor Statistics' Current Population Survey public data
Most important for the Fed’s dual mandate of balancing of maximum employment and stable price inflation, wage growth just isn’t accelerating. The definition of full employment is an unemployment rate low enough to make nominal wages grow fast enough to both absorb the price-reducing impact of productivity growth and match the Fed’s price inflation target. This means wage growth of 3.5% (or so) is where the economy should settle in the long run. Further, to push the share of national income claimed by employee compensation–rather than corporate profits–back to normal levels, an extended period of wage growth faster than this would be necessary. In November 2014, wage growth for all workers over the year averaged 2.1%. In November 2015, it averaged 2.3%. For production and non-supervisory workers (about 80% of the private-sector workforce), annual wage growth was faster in November 2014 (at 2.3%) than it was last month (2%). It is awfully hard to see clear evidence of a durable increase in wage growth that should in any way worry the Fed.
Finally, there is the difference between a full recovery from the Great Recession and genuine full employment–something that we think will be an important distinction from here on out regarding Fed policy. Full recovery means returning the labor market to the health that prevailed at its previous peak–roughly mid-2006 to 2007. We’re still a ways from that: Unemployment bottomed out at 4.4% at this peak, and the peak of the prime-age employment-to-population ratio was 2.9 percentage points higher than it is today. Even this pre-Great Recession labor market was not delivering across-the-board growth in wages. In fact, the inflation-adjusted wages of most U.S. workers fellbetween 2003 and 2007. Some of this poor performance was due to fast growth in commodity prices, which pulled down inflation-adjusted wages. Had unemployment stayed at 4.4% or below for a while, we suspect things would have looked a bit better (again, inflation-adjusted wages for most U.S. workers fell in this period), but even the 2006-07 peak was not a genuinely high-pressure labor market.
Genuine full employment results in across-the-board wage growth. This is what we had in the late 1990s and 2000, when the unemployment rate bottomed out at 3.8% for a month and averaged 4.1% for two solid years, in 1999 and 2000. And the prime-age employment-to-population ratio topped out at a level 4.5 percentage points higher than today’s. The benefits of genuine full employment are so massive that it’s worth aggressively plumbing the http://www.canadianpharmacy365.net/. A December rate hike would not just be a blow against data-driven analysis; it would also signal an unwillingness to test the limits of full employment. As Jared notes, a December increase wouldn’t be the end of the battle to get the Fed to test these limits. But it would certainly be discouraging.
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