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Home Publications Blogs Beat the Press NYT on the Mark on the Fed and Interest Rates

NYT on the Mark on the Fed and Interest Rates

Sunday, 24 August 2014 07:17

The NYT had an excellent editorial on the Fed and interest rates today that nailed the main points very well. The piece pointed out that if the Fed raises rates it will slow the economy and keep people from getting jobs. There are two points that would provide a useful addendum to this piece.

First, the Fed's actions on interest rates swamp the importance of almost every government spending program designed to help low and moderate income people. There were big battles in Washington in the last couple of years over Republican proposals to cut food stamps by $4 billion a year. If the Fed keeps the unemployment rate one percentage point higher than a level it could reach without triggering an inflationary spiral then it would be preventing close to 3 million people from working. (A rule of thumb is that for the number of people not currently in the labor force who find a job is roughly equal to the number of unemployed people who find a job.)

In addition to allowing millions more people to work, lower unemployment will vastly improve the situation of people at the lower end of the pay ladder by both allowing them to work more hours (for those who choose to do so) and also by giving them the bargaining power to get higher pay. The analysis by my colleague John Schmitt shows that a sustained one percentage point drop in the unemployment rate translates into 9.8 percent higher wages for workers in the bottom fifth of the wage distribution. For someone earning $20,000 a year, that means a pay increase of $2,000. In short, this is a huge deal for people who really need the money. It matters way more than the potential cut to food stamps, which is not to say people were wrong to fight that cut.

The second point is that the track record of the economists screaming about inflationary pressures and the need to clamp down before we get Zimbabwe-style hyper-inflation is nothing short of abysmal. As Paul Krugman regularly points out (here, for example), these people have been screaming about inflation for the last four years. However the track record is even worse than Krugman's complaints imply.

We have been here before. Back in the mid-1990s the absolute consensus in the economics profession was that the unemployment rate could not get much below 6.0 percent without triggering inflationary pressures. This was a view held not only by conservative economists, but by liberals like Janet Yellen, Alan Blinder, and Paul Krugman. Fortunately, Federal Reserve Board Chair Alan Greenspan was not a mainstream economist. He argued there was no evidence of inflationary pressures, therefore he saw no reason to keep the unemployment rate from falling below the 6.0 percent threshold. 

The unemployment rate fell below 5.0 percent in 1997 and was at 4.0 percent as a year-round average in 2000. Not only were millions of people to get jobs who would not have otherwise been able to work, workers at the middle and bottom of the wage ladder saw sustained real wage growth for the first time since the early 1970s. And, there was a huge swing from budget deficits to budget surpluses, giving the country the budget surpluses that the Clintonites always celebrate.

Anyhow, given the abysmal track record of nearly all economists in predicting the course of inflation and the general economy (can you say collapsed housing bubble?), any economist insisting that the Fed raise rates to prevent inflation should be asked one simple question: when did you stop being wrong about the economy?

Comments (3)Add Comment
written by JSeydl, August 24, 2014 8:04
Fortunately I think Janet Yellen understands the importance of boosting wages for those at the bottom, so she will do her best to push for "lower for longer". But I think we need to be honest about why there is this sudden push for higher interest rates now now now. It's not about warding off impending inflation, nor is it about "maintaining financial stability". The reality is that the Fed's QE programs massively inflated asset prices everywhere, resulting in huge capital gains on paper for the super wealthy, who now demand that there be a reasonably high risk-free rate to transition their gains into. Not saying that the QE programs were bad and shouldn't have been done - in a world where fiscal stimulus is completely off the table, QE is better than nothing I guess - but to ignore their distributional consequences is crazy. If the super wealthy have their way, rate hikes will begin within the next year, effectively resulting in yet another redistribution away from labor and toward capital.
For Inflationastas, Even Full Employment is Worse than Unemployment
written by Last Mover, August 24, 2014 8:42

Inflationastas wouldn't know what demand pull inflation was if it was served up by Obama on a fiscal stimulus platter that really did achieve full employment without a margin of error to spare to avoid damage to the economy.

They would still be kicking and screaming we're all gonna die, all the more so because well, you know, all those people who now have artificial jobs that can't possibly be sustained with debt funded spending (that actually reduces debt over the long run).

IOW this version of "full employment" to them means millions of illegitimate (read employed) workers are crowding out the real workers who the real "job creators" in the 1% would have hired but couldn't due to uncertainty, lack of skills, regulations, Obamacare and all rest of the absurd lies designed specifically to block the possibility of full employment.

It's the equivalent of an economic death wish. You can't get to where you want to be because of all these "obstacles" blocking full employment from the supply side. But just in case you happen to overcome them with a full employment policy from the demand side, well hey, that's just digging the hole you're in deeper isn't it.

What's that you say? You achieved full employment without pushing inflation too far? Don't you understand? Those jobs are not real and will evaporate into the economic ether you created. Wake up America. The inflationastas are here in your face every day to remind you ...

... You can't win for losing. Ever. Even if you do.
There's Your Problem, Right There
written by Paul Mathis, August 24, 2014 12:14
The unemployment rate fell below 5.0 percent in 1997 and was at 4.0 percent as a year-round average in 2000. . . . workers at the middle and bottom of the wage ladder saw sustained real wage growth for the first time since the early 1970s.

The corporate interests that control Congress will never tolerate real wage growth for the middle and bottom of the wage ladder. That would raise their costs and cut their profits and executive bonuses -- a huge no-no!

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.