October 14, 2003

The Federal Reserve Is Watching the Labor Market

Ben Bernanke tries to convince the markets that the Federal Reserve will not raise interest rates until the unemployment rate drops significantly:

Fed's Bernanke commits to low interest rates - Oct. 14, 2003: WASHINGTON (Reuters) - The U.S. economy seems on track for a sustained period of expansion, but the Federal Reserve can keep interest rates low at least until signs emerge of a solid jobs market recovery, a top Fed official said Tuesday. "After several false starts, the economy is showing signs of sustained recovery," Fed Governor Ben Bernanke said in testimony prepared for delivery to the Senate Banking Committee. Still, Bernanke told the panel the Fed sees risks that already low inflation could drift lower, putting the central bank in a position to hold interest rates at a low level to foster a sustained recovery in the long-suffering U.S. jobs market.

The panel was also to hear from Fed Vice Chairman Roger Ferguson, who has been tapped by President Bush for a fresh four-year term as the board's No. 2 official. In prepared remarks, Ferguson told the committee big technological advances had made the U.S. workforce more productive. "But faster productivity growth, despite its long-term benefits, has not insulated the economy from cyclical swings," he said.

Posted by DeLong at October 14, 2003 09:31 AM | TrackBack


Well, maybe that is what he is trying to tell us. A good distinction to keep in mind when listening to Fed officials lately is between "steady" and "accommodative" or "low". Fed officials routinely talk about keeping rates "accommodative" for a long time, or till job growth picks up, or whatever. Sometimes, they say "low." They do not say "steady." McTeer recently told his audience that the Fed funds futures curve (which at the time was pricing in some risk of a March 2004 hike) was getting ahead of reality, but otherwise, Fed officials are leaving themselves the wiggle room of "accommodative."

As long as they get around to explaining that a 1.5% funds rate is "accommodative" considerably before the first rate hike, they'll be able to say they were being candid all along and we just weren't listening.

Posted by: K Harris on October 14, 2003 09:55 AM

Why would any Fed Governor even suggest that the economy might be insulated form cyclical swings?

Is that the long term goal of the Fed? I thought they were trying to merely cushion the harsh downside of the cycle; This confirms my long held suspicion: The Fed would like to do away entirely with the Business cycle, if it could.

Posted by: Barry Ritholtz on October 14, 2003 10:17 AM

Do businesses want low unemployment more than they want low interest rates?

Posted by: P6 on October 14, 2003 10:48 AM

I am convinced that the Fed is so worried about deflation that they will let inflation move upward away from the liquidity trap before they raise rates. There is also the political factor of the 2004 election and they are not above the politics of not raising interest rates prior to the election unless forced to do so.

Posted by: bakho on October 14, 2003 12:41 PM

Bush desperately needs a low unemployment rate.

Posted by: David on October 14, 2003 12:47 PM


Though I agree the Fed wants to moderate cyclical swings, I am not sure this particular comment confirms much. I took the sentence in question are more of a rhetorical device. The point being made, I think, is that while faster productivity is a good thing, it is not the sum of all good things - it does not prevent cyclical swings. Whether one believes that ending the business cycle is a laudable goal is not the issue in this context. Bernanke's audience - a bunch of senators getting very heavy mail on the subject of jobs - is pretty sure that taming the business cycle would be a good thing.

Posted by: K Harris on October 14, 2003 01:24 PM

Let's say we do know that the natural rate of unemployment is some figure x (say x = 4% or whatever). Let's say Okun's Law still holds where the GDP gap is 3 times the difference between the actual rate of unemployment and the natural rate. Let's say the prospect for an aggregate demand boom are remote. Why on earth would the FED ever think about raising interest rates with a GDP gap of $600 billion? Now if the gap disappears anytime soon, you bet the FED will raise interest rates - quickly and dramatically. So why is this announcement news?

Posted by: Hal McClure on October 14, 2003 01:55 PM


global demand = Internal demand + foreign demand

Internal demand = const. or maybe slowly rising

Foreign demand = f(foreign policy,strength of dollar ) = falling or maybe rising? depends on depreciation of the dollar and foreign behaviour

Resultant demand = 70 % falling (deflation + depreciation) and 30% rising (inflation + depreciation),actually + personal opinion.

Fed? No more space left, else = Japan (crisis),but productivity = max.(lowest interest rate)

micro-economics "win-lose or lose-win" = (I think) pareto theorem: Stiglitz"...as the first fundamental theorem of welfare economics shows that under certain conditions every competitive equilibrium is Pareto efficient--that is , no one can be made better off without making someone worse off."

macro-economics "win-win or lose-lose" (Krugman)

Krugman + "demand": "When everybody wants to sell, the result is not a lot of sales but a fall in the price.The immediate result of a loss of confidence (NYSE,foreign policy,Enron and co.) in the United States then is not a sudden flight of capital but a sudden fall in the dollar.The textbook view of what happens next is that the fall in the dollar leads to a reduction in the US current account deficit."(CAD now ?)+ x-parameters.

P.S. Go, go, go Brad

Posted by: Justin on October 14, 2003 03:00 PM

and the unemployment rate won't drop significantly until we see "annual GDP growth is in excess of trend productivity:"


which if "trend productivity" stays around 3.5% may be a tall order next year. i think andy xie gets it right:


"I believe the global imbalance should be solved through (1) balancing the fiscal budget in the US and (2) decreasing savings rates in East Asia. Adjusting currency values to achieve the same purpose may not be effective and could be dangerous."

which, if bush's ongoing focus on exchange rates is any indication, should be interesting :D "I'm going to say that where there's trade imbalances, you know, countries need to be mindful that we expect there to be fair trade," Bush said. "And I fully understand the competitive world is one that I think is positive, so long as the competition is fair."


also check out labor's new business employment dynamics statistics! a new "set of statistics generated from the Covered Employment and Wages, or ES-202, program. These quarterly data series consist of gross job gains and gross job losses statistics from 1992 forward. These data help to provide a picture of the dynamic state of the labor market."


Posted by: dirk on October 14, 2003 04:30 PM

I agree with Hal - I expect the rates to stay low for a good while. But maybe there are people who see the last quarter growth (what was it, 5%?) and they wonder. So the Fed wants to reassure? And could upward pressure on rates really coexist with deflationary risk?

It seems Bernanke is getting more face time these days. Is the Fed trying to cultivate "comfort" with him, just in case? (Greenspan is 77 years old)

Posted by: andrew on October 15, 2003 04:51 AM

The reason the Fed might want to hike rates while the output gap is still wide is that there is a long way to go to reach neutral and monetary policy works with a lag. With recent estimates of Q3 GDP growth running as high as 7.5% annualized, the gap probably closed a bit in Q3. There is hopeful talk about growth closing the gap further in Q4 and beyond. (Have my doubts about beyond, but that is another issue.) Even if that doesn't work out, the gap will close itself somewhat, and more rapidly now than in prior times. Tech equipment depreciates faster than blast furnaces, and we have a good bit of tech equipment now. In addition, to the extent that there is a structural change underway, not just a cyclical swing, some capacity simply gets left behind. The output gap, as estimated, is probably larger than the effective output gap, though I cannot guess by how much.

By the way, Parry came right out and said it yesterday (October 16). He said "accommodative" does not mean steady. It means below the equilibrium rate. Poole wants us to believe that, in the long run, anyhow, the equilibrium rate may be higher because nominal 10-year rates need to be higher to accommodate a higher rate of trend GDP growth (population growth + productivity growth). Fed chatter is growing ever more upbeat. They will be speculating in public about whether price risks are getting close to balance pretty soon.

Posted by: K Harris on October 17, 2003 04:22 AM
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