Tag: labor markets

At Barron’s: The Fed’s View of the Economy Matters for More than Monetary Policy

(I write a monthly opinion piece for Barron’s. This is the most recent one; you can find earlier ones here.) 

Has the inflationary fever broken at last? The headline Consumer Price Index, which was rising at a 17 percent annual rate last June, actually fell in December. Other measures show a similar, if less dramatic, slowing of price growth. But before we all start congratulating the Federal Reserve, we should think carefully about what else we’re signing up for.

For Fed Chair Jerome Powell, it’s clear that slower price growth is not enough. Inflation may be coming down, but labor markets are still much too tight. “Nominal wages have been growing at a pace well above what would be consistent with 2 percent inflation over time,” he said recently, so “another condition we are looking for is the restoration of balance between supply and demand in the labor market.” 

The model of the economy that the Fed is working with looks something like this: most prices are, at the end of the day, set as a markup over wages. Wage increases depend on the relative bargaining power of workers and employers, and that in turn depends on labor market tightness. Labor market tightness depends on aggregate demand, which the Fed can influence through interest rates. Yes, there are other influences on inflation; but it’s clear that for the Fed this story is central. Indeed, we might call it the Federal Reserve View.

Is this story a fair description of the real world? Yes and no.

A useful rule to remember is that the rise in average wages must equal the rise in the price of domestically-produced goods, plus productivity growth, plus the share of income going to workers. All else equal, higher wages mean higher prices. But all else is not always equal. It’s possible to have faster wage growth and stable inflation if profit margins are falling, or if productivity is rising, or if import prices are falling.

In the short run, these other factors can easily outweigh wage growth. Just look at the 10 years prior to the pandemic. Hourly wages grew almost twice as fast in the second half of the decade as in the first half — nearly 4 percent annually, versus 2 percent. Yet inflation as measured by the CPI was no higher over 2015-2019 than over 2010-2014. That was thanks to productivity growth, which accelerated significantly, and import prices, which declined. (Workers’ share of national income did not change significantly.)

On the other hand, there is a limit to how fast productivity can rise, or profit margins or import prices can fall. No one doubts that if wages were to rise by, say, 10 percent year after year, inflation would eventually rise.

Critics of the Fed have questioned whether these long-run relationships tell us much about the inflation we are seeing now. There are plenty of things that cannot go on forever but can, and should, go on for a while. Rapid wage gains might be one of them. While Powell clearly still sees wage growth as excessive, others might look at the latest Employment Cost Index—less than 1% growth, compared with 1.4% at the start of 2022—and see a problem taking care of itself.

The Fed’s current plan is to increase unemployment by 1 percent over the next year, throwing 1.6 million people out of work. If the link between labor market conditions and prices is not as tight as they think, that’s a lot of suffering being inflicted for no reason. 

But there’s an even bigger problem with the Federal Reserve View: what else follows once you accept it. If price stability requires a weaker labor market – one in which employers have an easier time finding workers, and workers have a harder time finding jobs – that has implications that go far beyond monetary policy.

Take the Fair Trade Commission’s recent ban on non-compete clauses in employment contracts. When President Biden issued the executive order that led to this action, he explicitly framed it as a way of shifting bargaining power to workers and allowing them to demand higher pay. “If your employer wants to keep you,” he said, “he or she should have to make it worth your while to stay.” 

This sounds like good news for workers. But here’s the problem: from the Fed’s point of view, businesses are already paying too much to hold onto their employees. As Powell has said repeatedly over the past year, there is currently a “real imbalance in wage negotiating” in favor of workers. He wants to make it harder for people to switch jobs, not easier. So if the non-compete ban delivers what the President promised, that will just mean that rates have to go up by more.

Or think about minimum wage laws. Thanks to widespread indexing, nearly half the states saw significant increases in their minimum wages at the start of this year. Others, like New York, are moving in this direction. For many people the case for indexing is obvious: It makes sure that the incomes of low-wage workers in retail, fast food and other services keep pace with rising prices. But for the Fed, these are exactly the wages that are already rising too fast. Higher minimum wages, from the Fed’s point of view, call for higher interest rates and unemployment.

There’s nothing new or secret about this. In a typical macroeconomics textbook, the first example of something that raises the “natural rate” of unemployment (the one the central bank targets) is more generous unemployment benefits, which encourage workers to hold out for higher wages.

Publicly, the Fed disavows any responsibility for labor market policy. But obviously, if your goal is to maintain a certain balance of power between workers and employers, anything that shifts that balance is going to concern you.

This problem had dropped from view in recent years, when the Fed was struggling to get inflation up to its target. But historically, there’s been a clear conflict between protecting workers and keeping unemployment low. Under Alan Greenspan, Fed officials often worried that any revival of organized labor could make the job of inflation control harder. Treasury Secretary Yellen made a version of this argument early on in her career at the Fed, observing that “lower unemployment benefits or decreased unionization could … result in a decline in workers’ bargaining power.” This, she explained, could be a positive development, since it would imply “a permanent reduction in the natural rate of unemployment.”

Unfortunately, the same logic works the other way too. Stronger unions, higher minimum wages, and other protections for workers must, if you accept the Federal Reserve View, result in a higher natural rate of unemployment — which means more restrictive monetary policy to bring it about.

It’s easy to understand why administration officials would say they trust the Fed to manage inflation, while they focus on being the most-pro-labor administration in history. Unfortunately, dividing things up this way may not be as simple as it sounds. If that’s what they think their job is, they may have to challenge how the Fed thinks about its own.

At Barron’s: What’s At Stake in the Labor Market?

(I am now writing a monthly opinion piece for Barron’s. This one was published there in August.)

The labor market is exceptionally tight, at least by the standards of recent history. That matters for monetary policy, but its importance goes beyond inflation, or even material living standards. We are used to a world where workers compete for jobs. A world where businesses compete for workers would look very different.

Today’s 3.5% unemployment rate is lower than any time between 1970 and 2019. While the prime-age employment-population ratio is still shy of its prepandemic level, other measures imply a labor market even hotter than at the height of the late-90s boom. Both the historically high rate of workers quitting their jobs and the nearly two job openings for each unemployed worker suggest that this could be the best time to be looking for a job in most Americans’ working lives.

How long this will continue depends in large part on the Federal Reserve, where the question often comes down to whether inflation expectations are anchored. If businesses and households come to believe that prices will rise rapidly, the argument goes, they will behave in ways that cause prices to rise, validating those beliefs and making it harder to bring inflation back down.

Curiously, there is little discussion of all the other expectations that can also be anchored in different ways, which suggest a very different set of trade-offs.

Businesses that expect growth to be weak, for example, are unlikely to invest in raising capacity—which makes strong growth much harder to achieve. Workers who feel it’s impossible to find a job may stop looking for one, making expectations of weak employment growth self-confirming. Both these expectational shifts played a role in the “lost decade” after the 2007 crash.

Today’s tight labor markets are reshaping expectations in a different direction, which could lead to lasting changes in employment dynamics. As economist Julia Coronado observes, one lesson businesses seem to have learned is that staffing up may be slower and more difficult than in the past. This in turn makes businesses more hesitant to lay off workers, even when demand slackens.

Fewer layoffs, of course, contribute to tighter labor markets—another example of self-confirming expectations. But those new expectations also mean a different kind of employment relationship. A business that expects labor to be cheap and abundant has little reason to invest in recruiting, retaining and training its employees. Conversely, a business that can’t count on quickly hiring workers with whatever skills are needed has to focus more on developing and holding on to the workers it has. These qualitative changes in the organization of work aren’t captured in the aggregate numbers on employment and wages.

To be clear, there is not a labor shortage in any absolute terms. One thing we have clearly learned over the past year is that total employment isn’t just a matter of how many people are willing to work. Back in spring 2021, some economists argued that generous pandemic unemployment assistance was holding back job growth. When some states ended unemployment assistance early, that offered the perfect controlled test of this theory. It was decisively refuted. As the labor economist Arin Dube has shown, employment growth was no faster in the states that ended pandemic unemployment relief earlier than in those that kept it longer.

What is true, though, is that the kinds of jobs people will take may depend on their other options. For the economy as a whole, today’s high rate of movement between jobs is a clear positive. A big reason people can get raises by changing jobs is, presumably, that their new work is more valuable than what they were doing before. But from the point of view of employers, this is a process with winners and losers. Some businesses will adapt, offering higher wages—as many food service and retail giants are already doing—and nonpecuniary benefits such as predictable schedules and pathways for advancement. Tight labor markets will also favor higher-productivity businesses, which can afford to pay higher wages. Those that are wedded to a model that treats labor as cheap and disposable, on the other hand, may struggle or fail.

It isn’t only employers that need to adjust to tight labor markets, of course. There is little doubt that the upsurge of union organizing we’ve seen in recent years owes a great deal to labor market conditions. When jobs are plentiful, the fear of losing yours is less of a deterrent to standing up to the boss. And people who are reasonably confident of at least getting a paycheck may begin to wonder if that is all their employer owes them.

Historically, periods of rapid union growth have followed sustained growth, not depressions and crises. During the 1972 strike at GM’s Lordstown plant—one of the high points of 1970s labor militancy—one union leader explained why the younger workers were so ready to walk off their jobs:

“None of these guys came over from the old country poor and starving, grateful for any job they could get. None of them have been through a depression …They’re just not going to swallow the same kind of treatment their fathers did. That’s a lot of what the strike was about. They want more than just a job for 30 years.”

Strikes like Lordstown are rooted not just in conditions at the particular workplace, but also in the ways a prolonged high-pressure economy shifts what workers expect from a job. Significantly, the Lordstown strikers’ demands included a say in the design and organization of the plant, as well as better pay and benefits.

Not everyone would welcome a revived U.S. labor movement, of course, or a move toward German-style co-determination. While some people see unions as a pillar of democracy and counterweight to corporations’ political power, others see them as an illegitimate intrusion on the rights of business owners. Either way, whether organized labor can reverse its decline is a question with consequences that go far beyond next month’s inflation numbers. And it depends a great deal on how long today’s tight labor market lasts.

It might seem utopian to imagine a transformation of the workplace when the headlines are dominated by inflation and recession fears. But the real fantasy is to imagine we could reap the benefits of a high-pressure economy—faster productivity growth, a more equal distribution of income, more resources to solve our most pressing problems—without making any changes to how firms and labor markets are organized.

In his most recent press conference, Federal Reserve Chair Jerome Powell said, “we all want to get back to the kind of labor market we had before the pandemic.” Do we really all want that, or could we aim higher? But in any case simply turning back the clock isn’t an option. An economy adapted to slow growth and cheap, abundant workers can’t adjust to tight labor markets without changing in profound ways.

Some may welcome an economy where chronically scarce labor means that businesses are under constant pressure to raise productivity and attract and retain employees. Others may hope for a deep recession to reset expectations about the relative scarcity of workers and jobs. One way or the other, those are the stakes.

 

Video: The Macro Case for the Green New Deal

(Earlier this week, I gave a virtual presentation at an event organized by the Roosevelt Institute and the Green New Deal Network. Virtual events are inferior to live ones in many, many ways. But one way they are better, is that they are necessarily on video, and can be shared. Anyway, here is 25 minutes on why the economic situation calls for even more spending than the (surprisingly ambitious) proposals from the Biden administration, and also on why full employment shouldn’t be seen as an alternative to social justice and equity goals but as the best way of advancing them.)

Good News on the Economy, Bad News on Economic Policy

(Cross-posted from the Roosevelt Institute blog. I am hoping to start doing these kinds of posts on new economic data somewhat regularly.)

On Friday, the the Bureau of Labor Statistics released the unemployment figures for May. As expected, the reported unemployment rate was very low—3.6 percent, the same as last month. Combined with the steady growth in employment over the past few years, this level of unemployment—not seen since the 1960s—suggests an exceptionally strong labor market by historical standards.  On one level this really is good news for the economy. But at the same time it is very bad news for economic policy: The fact that employment this low is possible, shows that we have fallen even farther short of full employment in earlier years than we thought.

Some skeptics, of course, will cast doubts on how meaningful the BLS numbers are. The headline unemployment rate, they will argue, understates true slack in the labor market; many of the jobs being created are low-wage and insecure; workers’ overall position is still weak and precarious by historical standards.

This is all true. But it is also true that the unemployment numbers are not an isolated outlier. Virtually every other measure also suggests a labor market that is relatively favorable to workers, at least by the standards of the past 20 years. 

The broader unemployment measures published by the BLS, while higher than the headline rate, have come down more or less in lockstep with it. (The new release shows that the BLS’s broadest measure of unemployment, U-6, continued to decline in May, thanks to a steep fall in the number of people working part-time because they can’t find full-time work.) The labor force participation rate, after declining for a number of years, has now started to trend back upward, suggesting that  people who might have given up on finding a job a few years ago are once again finding it worthwhile to look for one. The fraction of workers voluntarily quitting their jobs, at 2.3 percent, is now higher than it ever got during the previous business cycle. The quit rate is a good measure of labor market tightness—one of former Fed chair Janet Yellen’s preferred measures—because it shows you how people evaluate their own job prospects; people are much more likely to quit their current job if they expect to get a better one. Reported job openings, a longstanding measure of labor market conditions, are at their highest level on record, with employers reporting that nearly 5 percent of positions are unfilled. Wage growth, which was nowhere to be seen well into the official recovery, has finally begun to pick up, with wage growth noticeably faster since 2016 than in the first six years of the expansion. In the nonfinancial business sector—where the shares of labor and capital are most easily measured—the share of value added going to labor has finally begun to tick up, from a steady 57 percent from 2011 to 2014 up to 59 percent by 2017. Though still far short of the 65 percent of value added claimed by labor at the height of the late-1990s boom, the recent increase does suggest an environment in which bargaining power has at last begun to shift in favor of workers.

For progressives, it can be a challenge to talk about the strengthening labor market. Our first instinct is often to call attention to the ways in which workers’ position is still worse than it was a generation ago, and to all the ways that the labor market is still rigged in favor of employers. This instinct is not wrong, but it is only one side of the picture. At the same time, we need to call attention to the real gains to working people from a high-pressure economy—one where aggregate demand is running ahead of available labor.

A high-pressure economy is especially important for those at the back of the hiring queue. People sometimes say that full employment is fine, but that it doesn’t help people of color, younger people, or those without college degrees. This thinking, however, is backwards. It is educated white men with plenty of experience whose job prospects depend least on overall labor market conditions; their employment prospects are good whether overall unemployment rates are high or low. It is those at the back of the hiring queue—Black Americans, those who have received less education, people with criminal records, and others discriminated against by potential employers—who depend much more on a strong labor market. The Atlanta Fed’s useful wage tracker shows this clearly: Wage growth for lower-wage, non-white, and less-educated workers lagged behind that of college-educated white workers during the high-unemployment years following the recession. Since 2016, however, that pattern has reversed, with the biggest wage gains for nonwhite workers and those at the bottom of the wage distribution. This pattern has been documented in careful empirical work by Josh Bivens and Ben Zipperer of the Economic Policy Institute, who show that, historically, tight labor markets have disproportionately benefited Black workers and raised wages most at the bottom.

Does this mean we should be satisfied with the state of macroeconomic policy—if not in every detail, at least with its broad direction?

No, it means just the opposite. Labor markets do seem to be doing well today. But that only shows that macroeconomic performance over the past decade was even worse than we thought.

This is true in a precise sense. Macroeconomic policy always aims at keeping the economy near some target. Whether we define the target as potential output or full employment, the goal of policy is to keep the actual level of activity as close to it as possible. But we can’t see the target directly. We know how high gross domestic product (GDP) growth is or how low unemployment is, but we don’t know how high or how low they could be. Everyone agrees that the US fell short of full employment for much of the past decade, but we don’t know how far short. Every month that the US records an unemployment rate below 4 percent suggests that these low unemployment rates are indeed sustainable. Which means that they should be the benchmark for full employment. Which also means that the economy fell that much further short of full employment in the years after the 2008-2009 recession—and, indeed, in the years before it.

For example: In 2014, the headline unemployment rate averaged 6.2 percent. At that time, the benchmark for full employment (technically, the non-accelerating inflation rate of unemployment, or NAIRU) used by the federal government was 4.8 percent, suggesting a 1.4 point shortfall, equivalent to 2.2 million excess people out of work. But let’s suppose that today’s unemployment rate of 3.6 percent is sustainable—which it certainly seems to be, given that it is, in fact, being sustained. Then the unemployment rate in 2014 wasn’t 1.4 points too high but 2.6 points too high, which is nearly twice as big of a gap as policymakers thought at the time. Again, this implies that the failure of demand management after the Great Recession was even worse than we thought.

And not just after it. For most of the previous expansion, unemployment was above 5 percent, and the labor share was falling. At the time, this was considered full employment – indeed, the self-congratulation over the so-called Great Moderation and “amazing success” of economic policy reached a crescendo in this period. But if a perofrmance like today’s was possible then — and why shouldn’t it have been? — then what policymakers were actually presiding over was an extended stagnation. As Minnesota Fed chair Narayan Kocherlakota – one of the the few people at the economic-policy high table who seems to have learned something from the past decade – points out, the US “output gap has been negative for almost the entirety of the current millenium.”

These mistakes have consequences. For years now, we have been repeatedly told that the US is at or above full employment—claims that have been repeatedly proved wrong as the labor market continues to strengthen. Only three years ago, respectable opinion dismissed the idea that, with sufficient stimulus, the unemployment could fall below 4 percent as absurd. As a result, we spent years talking about how to rein in demand and bring down the deficit, when in retrospect it is clear that we should have been talking about big new public spending programs to boost demand.

This, then, is a lesson we can draw from today’s strong unemployment numbers. Strong economic growth does improve the bargaining position of workers relative to employers, just as it has in the past. The fact that the genuine gains for working people over the past couple years have only begun to roll back the losses of the past 20 doesn’t mean that strong demand is not an important goal for policy. It means that we need much more of it, sustained for much longer. More fundamentally, strong labor markets today are no grounds for complacency about the state of macroeconomic policy. Again, the fact that today’s labor market outcomes are better than people thought possible a few years ago shows that the earlier outcomes were even worse than we thought. The lesson we should take is not that today’s good numbers are somehow fake; they are real, or at least they reflect a real shift from the position of a few years ago. Rather, the lesson we should take is that we need to set our sights higher. If today’s strong labor markets are sustainable—and there’s no reason to think that they are not—then we should not accept a macroeconomic policy consensus that has been willing to settle for so much less for so long.