With the U.S. unemployment rate hovering at uncomfortably high levels and showing no signs of moving anywhere but sideways, a long-running debate about the causes has moved to centre stage.
Economists have essentially split into two battling camps. A majority, including Federal Reserve chairman Ben Bernanke and his brain trust, insist that the problems stem largely from lack of demand and other “normal” cyclical economic factors coming out of a severe recession. But some prominent economic thinkers have been arguing for some time that the labour market has deeper structural flaws, including a widening skills mismatch and lack of mobility. Which means higher jobless rates cannot be treated with the usual medicine designed to stoke business and consumer demand – rock-bottom interest rates and plenty of pump-priming. This is no mere academic quarrel. If policy makers line up on the wrong side, they are liable to administer medicine that not only doesn’t work but may prove toxic to the patient.
Thus the concern with the Fed’s latest aggressive foray into quantitative easing, which stems entirely from the conviction that the central bank can do something about a jobless rate that has remained stubbornly above eight per cent for more than three and a half years, the longest such streak since the depths of the Great Depression.
“That is just a critical debate in the policy arena now,” agrees veteran Fed watcher Mickey Levy, who waded into the thick of the battle at the Kansas City Fed’s annual Jackson Hole, Wyo., economic policy symposium at the end of August – a central banker’s idea of a summer holiday.
Mr. Levy, chief economist with Bank of America, has attempted to stake out a spot somewhere in the middle between the two entrenched sides. “I think economists are very lazy, putting things into a structural bucket and then everything else [that doesn’t fit] into a cyclical bucket. My view is more nuanced than that. I think there’s a big grey area in between.”
His conclusion, though, is the same as that of the structuralists: Monetary policy does not hold the answer to what ails the current labour market.
The U.S. economy is now in its fourth year of modest economic expansion since climbing off the bottom. Real GDP is about 1.5 percentage points above the pre-recession expansion peak. But 4.7 million jobs have gone missing.
“There was a general presumption that the Fed needed to do more,” Mr. Levy says of the mood at Jackson Hole. “It was based on the general assertion that it [high unemployment] is all cyclical.” Some Fed officials supporting more aggressive stimulus measures acknowledged privately that another round of easing might not have much impact, but said they had to try anyway.
That the markets were clamouring for action may have been a factor. Then there is the Fed’s unusual dual role as guardian against inflation and protector of jobs. Mr. Bernanke and other officials have previously acknowledged that the jobless rate, which is affected by such non-monetary factors as productivity, demographics, business uncertainty, reduction of household debt and public-sector cutbacks, is beyond any central bank’s control.
But, “even if Bernanke believed that what’s going on has a heavy structural component, he would never go in front of Congress and say: ‘I’m sorry, all of these problems are beyond our control.’ Because then he would be saying, ‘You guys chartered us, but we can’t help you,’ ” says Mr. Levy, who will be speaking at a global forum in Toronto Wednesday.
The Jackson Hole crowd heard Stanford economist Edward Lazear, a former chairman of the president’s Council of Economic Advisers, flatly dismiss the structuralist case in a paper co-authored with James Spletzer of the U.S. Census Bureau. Their research, Prof. Lazear said in a Wall Street Journal opinion piece based on his speech, shows that the cure for the labour market’s woes is simply a decent recovery.
“The reason for the high level of unemployment is the obvious one: Overall economic growth has been very slow,” Prof. Lazear writes.
“The economy has regained about four million jobs since bottoming out in early 2010, which is right around three per cent of employment – just the gain that would be predicted from past experience. Things aren't great, but the failure is a result of weak economic growth, not of a labour market that is not in sync with the rest of the economy.”
Mr. Levy has a somewhat different take, one that includes the risk of inflation. “When the Fed says it’s all cyclical, that’s code for saying there’s tremendous slack in the economy and there’s tremendous insufficient demand. And if you pump things up, then all of the gains will be real and you’re not going to generate higher inflation. I’m saying that because some portion of the higher unemployment is due to structural and non-cyclical problems, then, No. 1, it’s beyond the scope of monetary policy to help it, and, No. 2, it will generate bottlenecks and eventually higher inflation.”
Unfortunately, that won’t keep Mr. Bernanke’s Fed from continuing to push on a string.