The Federal Reserve is considering changing its long-held policy of fighting unemployment levels it has considered too low. After the economy’s solid performance over the past year in particular, the Fed leadership ponders it may be better to leave the economy alone in times of low unemployment, instead of trying to hit the brakes with interest rate hikes.
For decades, the Fed has stuck to the idea that if unemployment drops under a certain level, perhaps about 4 percent, interest rates need to be increased or inflation would start to rise dramatically.
But the 2018 data indicates that’s not necessarily the case. The average unemployment stood just a bit above 3.8 percent in the 12 months ending in April and the economy continues to add more jobs while inflation stays mild.
Labor Force Complexities
The conventional theory says that if there are too few workers chasing too many jobs, employers will rise salaries, rise prices to make up for the wage hikes, and thus consumer prices—inflation—would increase.But the reality is more complex. The unemployment figure only includes people who are counted as in the labor force, which means they sought a job in the past four weeks. The rate is actually 7.3 percent when counting in the people who sought a job during the past 12 months and also those with part-time jobs wanting full-time jobs. The rate would be even higher if counting the people who want a job, but didn’t look for one in the past year.
After the 2008 recession, many people gave up on finding jobs and have been slow to rejoin the labor force during the sluggish recovery.
Since his campaign days, President Donald Trump has made a point of bringing these people back into the economy.
Policy Review
The Fed seems to be picking up on some of the complexities beyond the unemployment figures.“The labor market is a very complex organism and it is useful to keep multiple indicators” of how it is working, Fed Vice Chairman Richard Clarida said at a recent Minneapolis Fed conference.
Clarida was appointed this year by Fed Chairman Jerome Powell to head an operating framework review.
A series of public sessions around the nation and an upcoming research conference in Chicago may provide the basis for fundamental changes in how the Fed views the interplay of inflation and employment and decides on monetary policy.
The strategies being debated “would by definition call for lower monetary policy even when inflation is at target or above target. That would give us more room to push on maximum employment and see how many more workers we could drag back in,” Minneapolis Fed President Neel Kashkari said following a recent session on the topic organized by the Minneapolis Fed.