By Steven K. Beckner
(MaceNews) – As Federal Reserve policymakers try to calibrate the appropriate amount of monetary stimulus for an economy still recovering from the Covid virus and experiencing unpredictable cross currents in labor and other markets, they received plenty of advice from presenters at the Fed’s annual Jackson Hole symposium Friday.
Most of the advice, from both academics and Federal Reserve Bank economists, tended in the direction of proceeding cautiously and maintaining a high degree of monetary accommodation in pursuit of full employment.
Because of renewed public health concerns, the Kansas City Federal Reserve Bank reversed its decision to hold the symposium in person in Jackson Hole, Wyoming and decided to hold it on line for the second straight year.
The Fed’s policymaking Federal Open Market Committee has made no secret of its desire to achieve “maximum, inclusive employment” under the new monetary framework announced at Jackson Hole a year ago. No longer would the FOMC raise interest preemptively for fear falling unemployment would generate inflation, it vowed.
Since last December, the FOMC’s stance, reiterated most recently on July 28, has been that it will hold the federal funds rate in a zero to 25 basis point target range “until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2%.” And it pledged to keep buying $120 billion of bonds per month “until substantial further progress has been made toward its maximum employment and price stability goals.”
In wake of the stronger than expected July employment report, Fed officials have indicated enough “further progress” has been made to justify scaling back asset purchases in coming months. “Lifting off” from the zero lower bound for the funds rate would come only after “tapering” has been completed, the FOMC has made clear.
Opening the virtual Jackson Hole symposium, Chairman Jerome Powell declined to give a clear signal of near-term tapering. While agreeing with other FOMC participants that “it could be appropriate” to start tapering this year,” and although labor market conditions have “brightened considerably” since the July FOMC meeting, he said Covid risks have also increased since then.
Powell said the FOMC “will be carefully assessing incoming data and the evolving risks. Its next meeting is Sept. 21-22.
Still, questions remain about how soon and how fast the Fed will reduce asset purchases and, hence, when liftoff will begin. How aggressively the Fed proceed given the challenging economic picture was an underlying theme of the symposium.
While faced with a surprising overshoot of its average 2% inflation target, the Fed is also confronted with a somewhat bewildering situation on the other side of its dual mandate, as reflected in the minutes of the July 27-28 FOMC meeting:
“With regard to the labor market, participants noted that the demand for workers had been strong in recent months, while the level of employment had been constrained by labor supply shortages and hiring difficulties. Several participants emphasized that employment remained well below its pre-pandemic level and that a robust labor market, supported by a continuation of accommodative monetary policy, would allow further progress toward the Committee’s broad and inclusive maximum-employment goal and a return over time to labor market conditions as strong as those prevailing before the pandemic. A few other participants judged that monetary policy had limited ability to address the labor supply shortages and hiring difficulties currently constraining the level of employment. Several participants also commented that the pandemic might have caused longer-lasting changes in the labor market and that the pre-pandemic labor market conditions may not be the right benchmark against which the Committee should assess the progress toward its maximum-employment objective.”
Even after the July upsurge in payrolls and plunge in unemployment, Powell and others have observed that employment remains well below pre-Covid levels.
How, symposium participants and presenters were asking, should the Fed handle a combination of strong labor demand and shortages of workers in some areas and still high unemployment and weak labor force participation in others?
In academic papers presented for virtual discussion, Powell and his colleagues got cautionary policy advice on how best to navigate the tricky, post-Covid economic climate. Or, as one group of professors put it, how should a central bank conduct “Monetary Policy in Times of Structural Reallocation”?
“A concern that can arise in this context is that excessively easy monetary policy may hamper the reallocation process,” according to professors Veronica Guerrieri of the University of Chicago’s Booth School, Guido Lorenzoni of Northwestern University, Ludwig Straub of Harvard University and Iván Werning of MIT.
“The logic is that some businesses and some jobs that get destroyed in a recession are not going to be viable even after the recession is over,” they elaborate. “By stimulating demand in the aggregate, monetary policy ends up stimulating activity also in those sectors, possibly slowing down the reallocation process.”
But they ask, “Is this concern justified? Should optimal monetary policy be less expansionary because of it?”
No, Guerrieri and her colleagues conclude. The “optimal” monetary policy should go in the other direction.
“A desire to facilitate the reallocation process can lead to favor a more expansionary monetary policy,” they contend. “The reason is that higher inflation can facilitate the adjustment of relative wages, so as to provide the right price signals to encourage mobility.”
In another paper, Fed officials and other symposium participants heard that labor market recovery must be viewed more broadly than just focusing on non-farm payroll gains and the headline unemployment rate.
Even though we show that the unemployment cycle and participation cycle move closely together, especially in the latter parts of labor market expansions, we do not advocate that the FOMC solely focus on the unemployment rate for the implementation of its maximum employment mandate,” write Bart Hobijn, a visiting fellow at the San Francisco Fed on leave from Arizona State University, and FRB San Francisco, and Ayşegül Şahin of the University of Texas at Austin and the National Bureau of Economic Research.
“The unemployment cycle itself is influenced by many ‘non-monetary factors that affect the structure and dynamics of the labor market,’ such as rising labor force attachment among women and dual aging of workers and firms,” they write, quoting an FOMC statement from last year.
“Such factors determine both long- and short-run fluctuations in the natural rate of unemployment as well as shifts in labor supply on which monetary stimulus has no effect,” they continue. “These include the reasons for the large unevenness in long-run labor market outcomes, like, for example, workplace discrimination, child-care policies, the nature of employment contracts and stability, and the differential impact of climate change on jobs and employment.”
“Therefore,” Hobijn and Sahin stress, “it is imperative that the FOMC continues to consider the wide range of indicators and issues that are relevant for its assessment of the extent to which there is room for monetary policy to make progress towards its goal of maximum employment.”
In essence, the economists were seemingly urging the Fed to stay easier longer to maximize employment gains – advice that no doubt fell on receptive ears among symposium participants. Of course, staying accommodative is not synonymous with staying passive. Powell has often said that, even after the Fed begins firming monetary policy, it will remain well accommodative for some time.
One reason why the FOMC has pursued an aggressively accommodative interest rate and asset purchase programs is the Fed’s belief that the “natural” or “equilibrium” short-term interest rate, known as r*, has fallen globally to zero, if not lower.
Reinforcing the Fed’s assumptions, a third group of academic presenters contended that rising income inequality is yet another reason to believe that r* has fallen.
“Income inequality today remains extremely high relative to its pre-1980 level, and there does not appear to be any reversion in inequality in the near future,” write Atif Mian of Princeton University, Ludwig Straub of Harvard and Amir Sufi of Chicago- Booth – all of them NBER associates.
“As a result, according to the rising income inequality view, it is not surprising that current and future expected levels of r* remain low,” they go on. “If the inequality view is correct, then it suggests that macroeconomic forecasters should closely track the evolution of inequality when forecasting movements in r* going forward.
The Fed was also urged to keep supplementing fiscal policy efforts to revive the economy in yet another paper presented to the Jackson Hole symposium.
—
Contact this reporter: steve@macenews.com.
Content may appear first or exclusively on the Mace News premium service. For real-time delivery contact tony@macenews.com. Twitter headlines @macenewsmacro.