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June 30, 2014

The Implications of Flat or Declining Real Wages for Inequality

A recent Policy Note published by the Levy Economics Institute of Bard College shows that what we thought had been a decade of essentially flat real wages (since 2002) has actually been a decade of declining real wages. Replicating the second figure in that Policy Note, Chart 1 shows that holding experience (i.e., age) and education fixed at their levels in 1994, real wages per hour are at levels not seen since 1997. In other words, growth in experience and education within the workforce during the past decade has propped up wages.

Chart 1: Actual and Fixed Real Wages, 1994-2013

The implication for inequality of this growth in education and experience was only touched on in the Policy Note that Levy published. In this post, we investigate more fully what contribution growth in educational attainment has made to the growth in wage inequality since 1994.

The Gini coefficient is a common statistic used to measure the degree of inequality in income or wages within a population. The Gini ranges between 0 and 100, with a value of zero reflecting perfect equality and a value of 100 reflecting perfect inequality. The Gini is preferred to other, simpler indices, like the 90/10 ratio, which is simply the income in the 90th percentile divided by the income in the 10th percentile, because the Gini captures information along the entire distribution rather than merely information in the tails.

Chart 2 plots the Gini coefficient calculated for the actual real hourly wage distribution in the United States in each year between 1994 and 2013 and for the counterfactual wage distribution, holding education and/or age fixed at their 1994 levels in order to assess how much changes in age and education over the same period account for growth in wage inequality. In 2013, the Gini coefficient for the actual real wage distribution is roughly 33, meaning that if two people were drawn at random from the wage distribution, the expected difference in their wages is equal to 66 percent of the average wage in the distribution. (You can read more about interpreting the Gini coefficient.) A higher Gini implies that, first, the expected wage gap between two people has increased, holding the average wage of the distribution constant; or, second, the average wage of the distribution has decreased, holding the expected wage gap constant; or, third, some combination of these two events.

Chart 2: Wage Distribution Gini Coefficients over Time

The first message from Chart 2 is that—as has been documented numerous other places (here and here, for example)—inequality has been growing in the United States, which can be seen by the rising value of the Gini coefficient over time. The Gini coefficient’s 1.27-point rise means that between 1994 and 2013 the expected gap in wages between two randomly drawn workers has gotten two and a half (2 times 1.27, or 2.54) percentage points larger relative to the average wage in the distribution. Since the average real wage is higher in 2013 than in 1994, the implication is that the expected wage gap between two randomly drawn workers grew faster than the overall average wage grew. In other words, the tide rose, but not the same for all workers.

The second message from Chart 2 is that the aging of the workforce has contributed hardly anything to the growth in inequality over time: the Gini coefficient since 2009 for the wage distribution that holds age constant is essentially identical to the Gini coefficient for the actual wage distribution. However, the growth in education is another story.

In the absence of the growth in education during the same period, inequality would not have grown as much. The Gini coefficient for the actual real wage distribution in 2013 is 1.27 points higher than it was in 1994, whereas it's only 0.49 points higher for the wage distribution, holding education fixed. The implication is that growth in education has accounted for about 61 percent of the growth in inequality (as measured by the Gini coefficient) during this period.

Chart 3 shows the growth in education producing this result. The chart makes apparent the declines in the share of the workforce with less than a high school degree and the share with a high school degree, as is the increase in the shares of the workforce with college and graduate degrees.

Chart 3: Distribution of the Workforce across Educational Status

There is little debate about whether income inequality has been rising in the United States for some time, and more dramatically recently. The degree to which education has exacerbated inequality or has the potential to reduce inequality, however, offers a more robust debate. We intend this post to add to the evidence that growing educational attainment has contributed to rising inequality. This assertion is not meant to imply that education has been the only source of the rise in inequality or that educational attainment is undesirable. The message is that growth in educational attainment is clearly associated with growing inequality, and understanding that association will be central to the understanding the overall growth in inequality in the United States.

Photo of Jessica DillBy Julie L. Hotchkiss, a research economist and senior policy adviser at the Atlanta Fed, and

Fernando Rios-Avila, a research scholar at the Levy Economics Institute of Bard College


June 30, 2014 in Education, Employment, Inequality, Labor Markets | Permalink

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Thanks for an interesting post. I have been tracking wage inequality in Washington state over the past 20 years, but haven't had access (yet) to age and education dimensions, and these are important considerations.

I think you muddy the waters a bit by sometimes talking about inequality without qualifying it as wage inequality. I believe that increasing inequality in non-wage income and wealth are much bigger issues than wage inequality.

Posted by: Scott Bailey | June 30, 2014 at 10:42 PM

One characteristic that is not discussed or difficult to discuss is the co-relation of nature of job to the educational status. The distribution of workforce across educational status does not really say whether they can do what they are doing, only if they are 'educated' so and so!

Posted by: Raghuraman R | July 01, 2014 at 12:30 AM

Wealthy parents can afford to send children to college explains more this dynamic than the "high return on education"...especially at the median not the mean.

Posted by: gman | July 01, 2014 at 02:06 PM

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June 26, 2014

Torturing CPI Data until They Confess: Observations on Alternative Measures of Inflation (Part 3)

On May 30, the Federal Reserve Bank of Cleveland generously allowed me some time to speak at their conference on Inflation, Monetary Policy, and the Public. The purpose of my remarks was to describe the motivations and methods behind some of the alternative measures of the inflation experience that my coauthors and I have produced in support of monetary policy.

This is the last of three posts on that talk. The first post reviewed alternative inflation measures; the second looked at ways to work with the Consumer Price Index to get a clear view of inflation. The full text of the speech is available on the Atlanta Fed's events web page.

The challenge of communicating price stability

Let me close this blog series with a few observations on the criticism that measures of core inflation, and specifically the CPI excluding food and energy, disconnect the Federal Reserve from households and businesses "who know price changes when they see them." After all, don't the members of the Federal Open Market Committee (FOMC) eat food and use gas in their cars? Of course they do, and if it is the cost of living the central bank intends to control, the prices of these goods should necessarily be part of the conversation, notwithstanding their observed volatility.

In fact, in the popularly reported all-items CPI, the Bureau of Labor Statistics has already removed about 40 percent of the monthly volatility in the cost-of-living measure through its seasonal adjustment procedures. I think communicating in terms of a seasonally adjusted price index makes a lot of sense, even if nobody actually buys things at seasonally adjusted prices.

Referencing alternative measures of inflation presents some communications challenges for the central bank to be sure. It certainly would be easier if progress toward either of the Federal Reserve's mandates could be described in terms of a single, easily understood statistic. But I don't think this is feasible for price stability, or for full employment.

And with regard to our price stability mandate, I suspect the problem of public communication runs deeper than the particular statistics we cite. In 1996, Robert Shiller polled people—real people, not economists—about their perceptions of inflation. What he found was a stark difference between how economists think about the word "inflation" and how folks outside a relatively small band of academics and policymakers define inflation. Consider this question:

140626_tbl1

And here is how people responded:

140626_tbl2

Seventy-seven percent of the households in Shiller's poll picked number 2—"Inflation hurts my real buying power"—as their biggest gripe about inflation. This is a cost-of-living description. It isn't the same concept that most economists are thinking about when they consider inflation. Only 12 percent of the economists Shiller polled indicated that inflation hurt real buying power.

I wonder if, in the minds of most people, the Federal Reserve's price-stability mandate is heard as a promise to prevent things from becoming more expensive, and especially the staples of life like, well, food and gasoline. This is not what the central bank is promising to do.

What is the Federal Reserve promising to do? To the best of my knowledge, the first "workable" definition of price stability by the Federal Reserve was Paul Volcker's 1983 description that it was a condition where "decision-making should be able to proceed on the basis that 'real' and 'nominal' values are substantially the same over the planning horizon—and that planning horizons should be suitably long."

Thirty years later, the Fed gave price stability a more explicit definition when it laid down a numerical target. The FOMC describes that target thusly:

The inflation rate over the longer run is primarily determined by monetary policy, and hence the Committee has the ability to specify a longer-run goal for inflation. The Committee reaffirms its judgment that inflation at the rate of 2 percent, as measured by the annual change in the price index for personal consumption expenditures, is most consistent over the longer run with the Federal Reserve's statutory mandate.

Whether one goes back to the qualitative description of Volcker or the quantitative description in the FOMC's recent statement of principles, the thrust of the price-stability objective is broadly the same. The central bank is intent on managing the persistent, nominal trend in the price level that is determined by monetary policy. It is not intent on managing the short-run, real fluctuations that reflect changes in the cost of living.

Effectively achieving price stability in the sense of the FOMC's declaration requires that the central bank hears what it needs to from the public, and that the public in turn hears what they need to know from the central bank. And this isn't likely unless the central bank and the public engage in a dialog in a language that both can understand.

Prices are volatile, and the cost of living the public experiences ought to reflect that. But what the central bank can control over time—inflation—is obscured within these fluctuations. What my colleagues and I have attempted to do is to rearrange the price data at our disposal, and so reveal a richer perspective on the inflation experience.

We are trying to take the torture out of the inflation discussion by accurately measuring the things that the Fed needs to worry about and by seeking greater clarity in our communications about what those things mean and where we are headed. Hard conversations indeed, but necessary ones.

Photo of Mike BryanBy Mike Bryan, vice president and senior economist in the Atlanta Fed's research department

 


June 26, 2014 in Business Cycles, Data Releases, Inflation | Permalink

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It would seem the non-economists may also be saying that the economists low inflation is their own stagnant wage.

Sure, they may see prices rising, but they stated what they suffer is the reduction of purchasing power.

Perhaps they would be happy to see prices rising rapidly as long as their own wages outpace.

The 70s may not have been so bad for them.

Posted by: cfaman | June 27, 2014 at 10:01 AM

In addition to the issues discussed in the article, Fed policy makers typically ignore one-time prices changes, particularly those originating on the supply side of the economy -- e.g., those caused by bad weather or a foreign conflict. 

The public can't ignore those price changes, which comprise their daily reality.

Posted by: Thomas Wyrick | July 06, 2014 at 05:57 PM

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June 24, 2014

Torturing CPI Data until They Confess: Observations on Alternative Measures of Inflation (Part 2)

On May 30, the Federal Reserve Bank of Cleveland generously allowed me some time to speak at their conference on Inflation, Monetary Policy, and the Public. The purpose of my remarks was to describe the motivations and methods behind some of the alternative measures of the inflation experience that my coauthors and I have produced in support of monetary policy.

This is the second of three posts based on that talk. Yesterday's post considered the median CPI and other trimmed-mean measures.

Is it more expensive, or does it just cost more money? Inflation versus the cost of living

Let me make two claims that I believe are, separately, uncontroversial among economists. Jointly, however, I think they create an incongruity for how we think about and measure inflation.

The first claim is that over time, inflation is a monetary phenomenon. It is caused by too much money chasing a limited number of things to buy with that money. As such, the control of inflation is rightfully the responsibility of the institution that has monopoly control over the supply of money—the central bank.

My second claim is that the cost of living is a real concept, and changes in the cost of living will occur even in a world without money. It is a description of how difficult it is to buy a particular level of well-being. Indeed, to a first approximation, changes in the cost of living are beyond the ability of a central bank to control.

For this reason, I think it is entirely appropriate to think about whether the cost of living in New York City is rising faster or slower than in Cleveland, just as it is appropriate to ask whether the cost of living of retirees is rising faster or slower than it is for working-aged people. The folks at the Bureau of Labor Statistics produce statistics that can help us answer these and many other questions related to how expensive it is to buy the happiness embodied in any particular bundle of goods.

But I think it is inappropriate for us to think about inflation, the object of central bank control, as being different in New York than it is in Cleveland, or to think that inflation is somehow different for older citizens than it is for younger citizens. Inflation is common to all things valued by money. Yet changes in the cost of living and inflation are commonly talked about as if they are the same thing. And this creates both a communication and a measurement problem for the Federal Reserve and other central banks around the world.

Here is the essence of the problem as I see it: money is not only our medium of exchange but also our numeraire—our yardstick for measuring value. Embedded in every price change, then, are two forces. The first is real in the sense that the good is changing its price in relation to all the other prices in the market basket. It is the cost adjustment that motivates you to buy more or less of that good. The second force is purely nominal. It is a change in the numeraire caused by an imbalance in the supply and demand of the money being provided by the central bank. I think the concept of "core inflation" is all about trying to measure changes in this numeraire. But to get there, we need to first let go of any "real" notion of our price statistics. Let me explain.

As a cost-of-living approximation, the weights the Bureau of Labor Statistics (BLS) uses to construct the Consumer Price Index (CPI) are based on some broadly representative consumer expenditures. It is easy to understand that since medical care costs are more important to the typical household budget than, say, haircuts, these costs should get a greater weight in the computation of an individual's cost of living. But does inflation somehow affect medical care prices differently than haircuts? I'm open to the possibility that the answer to this question is yes. It seems to me that if monetary policy has predictable, real effects on the economy, then there will be a policy-induced disturbance in relative prices that temporarily alters the cost of living in some way.

But if inflation is a nominal experience that is independent of the cost of living, then the inflation component of medical care is the same as that in haircuts. No good or service, geographic region, or individual experiences inflation any differently than any other. Inflation is a common signal that ultimately runs through all wages and prices.

And when we open up to the idea that inflation is a nominal, not-real concept, we begin to think about the BLS's market basket in a fundamentally different way than what the BLS intends to measure.

This, I think, is the common theme that runs through all measures of "core" inflation. Can the prices the BLS collects be reorganized or reweighted in a way that makes the aggregate price statistic more informative about the inflation that the central bank hopes to control? I think the answer is yes. The CPI excluding food and energy is one very crude way. Food and energy prices are extremely volatile and certainly point to nonmonetary forces as their primary drivers.

In the early 1980s, Otto Eckstein defined core inflation as the trend growth rate of the cost of the factors of production—the cost of capital and wages. I would compare Eckstein's measure to the "inflation expectations" component that most economists (and presumably the FOMC) think "anchor" the inflation trend.

The sticky-price CPI

Brent Meyer and I have taken this idea to the CPI data. One way that prices appear to be different is in their observed "stickiness." That is, some prices tend to change frequently, while others do not. Prices that change only infrequently are likely to be more forward-looking than are those that change all the time. So we can take the CPI market basket and separate it into two groups of prices—prices that tend to be flexible and those that are "sticky" (a separation made possible by the work of Mark Bils and Peter J. Klenow).

Indeed, we find that the items in the CPI market basket that change prices frequently (about 30 percent of the CPI) are very responsive to changes in economic conditions, but do not seem to have a very forward-looking character. But the 70 percent of the market basket items that do not change prices very often—these are accounted for in the sticky-price CPI—appear to be largely immune to fluctuations in the business conditions and are better predictors of future price behavior. In other words, we think that some "inflation-expectation" component exists to varying degrees within each price. By reweighting the CPI market basket in a way that amplifies the behavior of the most forward-looking prices, the sticky-price CPI gives policymakers a perspective on the inflation experience that the headline CPI can't.

Here is what monthly changes in the sticky-price CPI look like compared to the all-items CPI and the traditional "core" CPI.


Let me describe another, more radical example of how we might think about reweighting the CPI market basket to measure inflation—a way of thinking that is very different from the expenditure-basket approach the BLS uses to measure the cost of living.

If we assume that inflation is ultimately a monetary event and, moreover, that the signal of this monetary inflation can be found in all prices, then we might use statistical techniques to help us identify that signal from a large number of price data. The famous early-20th-century economist Irving Fisher described the problem as trying to track a swarm of bees by abstracting from the individual, seemingly chaotic behavior of any particular bee.

Cecchetti and I experimented along these lines to measure a common signal running through the CPI data. The basic idea of our approach was to take the component data that the BLS supplied, make a few simple identifying assumptions, and let the data itself determine the appropriate weighting structure of the inflation estimate. The signal-extraction method we chose was a dynamic-factor index approach, and while we didn't pursue that work much further, others did, using more sophisticated and less restrictive signal-extraction methods. Perhaps most notable is the work of Ricardo Reis and Mark Watson.

To give you a flavor of the approach, consider the "first principal component" of the CPI price-change data. The first principal component of a data series is a statistical combination of the data that accounts for the largest share of their joint movement (or variance). It's a simple, statistically shared component that runs through all the price data.

This next chart shows the first principal component of the CPI price data, in relation to the headline CPI and the core CPI.


Again, this is a very different animal than what the folks at the BLS are trying to measure. In fact, the weights used to produce this particular common signal in the price data bear little similarity to the expenditure weights that make up the market baskets that most people buy. And why should they? The idea here doesn't depend on how important something is to the well-being of any individual, but rather on whether the movement in its price seems to be similar or dissimilar to the movements of all the other prices.

In the table below, I report the weights (or relative importance) of a select group of CPI components and the weights they would get on the basis of their contribution to the first principal component.

140624b

While some criticize the CPI because it over weights housing from a cost-of-living perspective, it may be these housing components that ought to be given the greatest consideration when we think about the inflation that the central bank controls. Likewise, according to this approach, restaurant costs, motor vehicle repairs, and even a few food components should be taken pretty seriously in the measurement of a common inflation signal running through the price data.

And what price movements does this approach say we ought to ignore? Well, gasoline prices for one. But movements in the prices of medical care commodities, communications equipment, and tobacco products also appear to move in ways that are largely disconnected from the common thread in prices that runs through the CPI market basket.

But this and other measures of "core" inflation are very much removed from the cost changes that people experience on a monthly basis. Does that cause a communications problem for the Federal Reserve? This will be the subject of my final post.

Photo of Mike BryanBy Mike Bryan, vice president and senior economist in the Atlanta Fed's research department

 

June 24, 2014 in Business Cycles, Data Releases, Inflation | Permalink

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Great thoughts, thanks for sharing. taking the the idea of core inflation as the movements in prices that contain information about future inflation, have you ever thought about applying partial least squares (PLS) rather than PCA for dimension reduction, and making a future value of headline inflation the Y variable in the PLS decomposition of the Y'X? then you would get weightings that reflected the information content of each price series x on future Y, rather than PCA which simply decomposes the variance within X'X

Posted by: Michael Hugman | June 25, 2014 at 11:10 AM

This is very interesting. But I wonder, is it really possible to distinguish monetary inflation from cost-of-living inflation? As you say, monetary inflation reflects an imbalance between the supply and demand for money. Where does the demand for money come from? Presumably from the level of real activity. And how do we measure real activity independent of money, if not as a level of well-being?

In fact, the measurement of quantity in terms of well-being is the explicit basis of the hedonic price adjustments that go into a significant fraction of the CPI. So at the least, if you want a pure monetary measure of inflation, shouldn't you strip those adjustments back out?

Along the same lines, you say the inflation controlled by the central should be identical in New York and Cleveland. But what if monetary policy produces identical rates of money supply growth in both cities, while different real growth rates mean that money demand is rowing faster in one place than the other?

Posted by: JW Mason | June 27, 2014 at 09:42 AM

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June 23, 2014

Torturing CPI Data until They Confess: Observations on Alternative Measures of Inflation (Part 1)

On May 30, the Federal Reserve Bank of Cleveland generously allowed me some time to speak at their conference on Inflation, Monetary Policy, and the Public. The purpose of my remarks was to describe the motivations and methods behind some of the alternative measures of the inflation experience that my coauthors and I have produced in support of monetary policy.

In this, and the following two blogs, I'll be posting a modestly edited version of that talk. A full version of my prepared remarks will be posted along with the third installment of these posts.

The ideas expressed in these blogs and the related speech are my own, and do not necessarily reflect the views of the Federal Reserve Banks of Atlanta or Cleveland.

Part 1: The median CPI and other trimmed-mean estimators

A useful place to begin this conversation, I think, is with the following chart, which shows the monthly change in the Consumer Price Index (CPI) (through April).


The monthly CPI often swings between a negative reading and a reading in excess of 5 percent. In fact, in only about one-third of the readings over the past 16 years was the monthly, annualized seasonally adjusted CPI within a percentage point of 2 percent, which is the FOMC's longer-term inflation target. (Officially, the FOMC's target is based on the Personal Consumption Expenditures price index, but these and related observations hold for that price index equally well.)

How should the central bank think about its price-stability mandate within the context of these large monthly CPI fluctuations? For example, does April's 3.2 percent CPI increase argue that the FOMC ought to do something to beat back the inflationary threat? I don't speak for the FOMC, but I doubt it. More likely, there were some unusual price movements within the CPI's market basket that can explain why the April CPI increase isn't likely to persist. But the presumption that one can distinguish the price movements we should pay attention to from those that we should ignore is a risky business.

The Economist retells a conversation with Stephen Roach, who in the 1970s worked for the Federal Reserve under Chairman Arthur Burns. Roach remembers that when oil prices surged around 1973, Burns asked Federal Reserve Board economists to strip those prices out of the CPI "to get a less distorted measure. When food prices then rose sharply, they stripped those out too—followed by used cars, children's toys, jewellery, housing and so on, until around half of the CPI basket was excluded because it was supposedly 'distorted'" by forces outside the control of the central bank. The story goes on to say that, at least in part because of these actions, the Fed failed to spot the breadth of the inflationary threat of the 1970s.

I have a similar story. I remember a morning in 1991 at a meeting of the Federal Reserve Bank of Cleveland's board of directors. I was welcomed to the lectern with, "Now it's time to see what Mike is going to throw out of the CPI this month." It was an uncomfortable moment for me that had a lasting influence. It was my motivation for constructing the Cleveland Fed's median CPI.

I am a reasonably skilled reader of a monthly CPI release. And since I approached each monthly report with a pretty clear idea of what the actual rate of inflation was, it was always pretty easy for me to look across the items in the CPI market basket and identify any offending—or "distorted"—price change. Stripping these items from the price statistic revealed the truth—and confirmed that I was right all along about the actual rate of inflation.

Let me show you what I mean by way of the April CPI report. The next chart shows the annualized percentage change for each component in the CPI for that month. These are shown on the horizontal axis. The vertical axis shows the weight given to each of these price changes in the computation of the overall CPI. Taken as a whole, the CPI jumped 3.2 percent in April. But out there on the far right tail of this distribution are gasoline prices. They rose about 32 percent for the month. If you subtract out gasoline from the April CPI report, you get an increase of 2.1 percent. That's reasonably close to price stability, so we can stop there—mission accomplished.


But here's the thing: there is no such thing as a "nondistorted" price. All prices are being influenced by market forces and, once influenced, are also influencing the prices of all the other goods in the market basket.

What else is out there on the tails of the CPI price-change distribution? Lots of stuff. About 17 percent of things people buy actually declined in price in April while prices for about 13 percent of the market basket increased at rates above 5 percent.

But it's not just the tails of this distribution that are worth thinking about. Near the center of this price-change distribution is a very high proportion of things people buy. For example, price changes within the fairly narrow range of between 1.5 percent and 2.5 percent accounted for about 26 percent of the overall CPI market basket in the April report.

The April CPI report is hardly unusual. The CPI report is commonly one where we see a very wide range of price changes, commingled with an unusually large share of price increases that are very near the center of the price-change distribution. Statisticians call this a distribution with a high level of "excess kurtosis."

The following chart shows what an average monthly CPI price report looks like. The point of this chart is to convince you that the unusual distribution of price changes we saw in the April CPI report is standard fare. A very high proportion of price changes within the CPI market basket tends to remain close to the center of the distribution, and those that don't tend to be spread over a very wide range, resulting in what appear to be very elongated tails.


And this characterization of price changes is not at all special to the CPI. It characterizes every major price aggregate I have ever examined, including the retail price data for Brazil, Argentina, Mexico, Columbia, South Africa, Israel, the United Kingdom, Sweden, Canada, New Zealand, Germany, Japan, and Australia.

Why do price change distributions have peaked centers and very elongated tails? At one time, Steve Cecchetti and I speculated that the cost of unplanned price changes—called menu costs—discourage all but the most significant price adjustments. These menu costs could create a distribution of observed price changes where a large number of planned price adjustments occupy the center of the distribution, commingled with extreme, unplanned price adjustments that stretch out along its tails.

But absent a clear economic rationale for this unusual distribution, it presents a measurement problem and an immediate remedy. The problem is that these long tails tend to cause the CPI (and other weighted averages of prices) to fluctuate pretty widely from month to month, but they are, in a statistical sense, tethered to that large proportion of price changes that lie in the center of the distribution.

So my belated response to the Cleveland board of directors was the computation of the weighted median CPI (which I first produced with Chris Pike). This statistic considers only the middle-most monthly price change in the CPI market basket, which becomes the representative aggregate price change. The median CPI is immune to the obvious analyst bias that I had been guilty of, while greatly reducing the volatility in the monthly CPI report in a way that I thought gave the Federal Reserve Bank of Cleveland a clearer reading of the central tendency of price changes.

Cecchetti and I pushed the idea to a range of trimmed-mean estimators, for which the median is simply an extreme case. Trimmed-mean estimators trim some proportion of the tails from this price-change distribution and reaggregate the interior remainder. Others extended this idea to asymmetric trims for skewed price-change distributions, as Scott Roger did for New Zealand, and to other price statistics, like the Federal Reserve Bank of Dallas's trimmed-mean PCE inflation rate.

How much one should trim from the tails isn't entirely obvious. We settled on the 16 percent trimmed mean for the CPI (that is, trimming the highest and lowest 8 percent from the tails of the CPI's price-change distribution) because this is the proportion that produced the smallest monthly volatility in the statistic while preserving the same trend as the all-items CPI.

The following chart shows the monthly pattern of the median CPI and the 16 percent trimmed-mean CPI relative to the all-items CPI. Both measures reduce the monthly volatility of the aggregate price measure by a lot—and even more so than by simply subtracting from the index the often-offending food and energy items.


But while the median CPI and the trimmed-mean estimators are often referred to as "core" inflation measures (and I am guilty of this myself), these measures are very different from the CPI excluding food and energy.

In fact, I would not characterize these trimmed-mean measures as "exclusionary" statistics at all. Unlike the CPI excluding food and energy, the median CPI and the assortment of trimmed-mean estimators do not fundamentally alter the underlying weighting structure of the CPI from month to month. As long as the CPI price change distribution is symmetrical, these estimators are designed to track along the same path as that laid out by the headline CPI. It's just that these measures are constructed so that they follow that path with much less volatility (the monthly variance in the median CPI is about 95 percent smaller than the all-items CPI and about 25 percent smaller than the CPI less food and energy).

I think of the trimmed-mean estimators and the median CPI as being more akin to seasonal adjustment than they are to the concept of core inflation. (Indeed, early on, Cecchetti and I showed that the median CPI and associated trimmed-mean estimates also did a good job of purging the data of its seasonal nature.) The median CPI and the trimmed-mean estimators are noise-reduced statistics where the underlying signal being identified is the CPI itself, not some alternative aggregation of the price data.

This is not true of the CPI excluding food and energy, nor necessarily of other so-called measures of "core" inflation. Core inflation measures alter the weights of the price statistic so that they can no longer pretend to be approximations of the cost of living. They are different constructs altogether.

The idea of "core" inflation is one of the topics of tomorrow's post.

Photo of Mike BryanBy Mike Bryan, vice president and senior economist in the Atlanta Fed's research department

June 23, 2014 in Data Releases, Economic conditions, Inflation | Permalink

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Or you aware that if you look at the NSA core CPI that over half of the annual increase normally occurs in the first quarter.

Normally, if the first quarter change in the NSA core CPI is smaller than in the prior year the annual increase will be smaller than in the prior year. The same thing holds if it is larger.

I would be happy to send you an excell file
with the data arranged to demonstrate this.

Posted by: Spencer | June 24, 2014 at 11:11 AM

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June 20, 2014

The Wrong Question?

Just before Wednesday's confirmation from Fed Chairwoman Janet Yellen that the Federal Open Market Committee (FOMC) does indeed still see slack in the labor market, Jon Hilsenrath and Victoria McGrane posted a Wall Street Journal article calling notice to the state of debate:

Nearly four-fifths of those who became long-term unemployed during the worst period of the downturn have since migrated to the fringes of the job market, a recent study shows, rarely seeking work, taking part-time posts or bouncing between unsteady jobs. Only one in five, according to the study, has returned to lasting full-time work since 2008.

Deliberations over the nature of the long-term unemployed are particularly lively within the Federal Reserve.... Fed officials face a conundrum: Should they keep trying to spur economic growth and hiring by holding short-term interest rates near zero, or will those low rates eventually spark inflation without helping those long out of work?

The article goes on to provide a nice summary of the ongoing back-and-forth among economists on whether the key determinant of slack in the labor market is the long-term unemployed or the short-term unemployed. Included in that summary, checking in on the side of "both," is research by Chris Smith at the Federal Reserve Board of Governors.

We are fans of Smith's work, but think that the Wall Street Journal summary buries its own lede by focusing on the long-term/short-term unemployment distinction rather than on what we think is the more important part of the story: In Hilsenrath and McGrane's words, those "taking part-time posts."

We are specifically talking about the group officially designated as part-time for economic reasons (PTER). This is the group of people in the U.S. Bureau of Labor Statistics' Household Survey who report they worked less than 35 hours in the reference week due to an economic reason such as slack work or business conditions.

We have previously noted that the long-term unemployed have been disproportionately landing in PTER jobs. We have also previously argued that PTER emerges as a key negative influence on earnings over the course of the recovery, and remains so (at least as of the end of 2013). For reference, here is a chart describing the decomposition from our previous post (which corrects a small error in the data definitions):

140620a

Our conclusion, clearly identified in the chart, was that short-term unemployment and PTER have been statistically responsible for the tepid growth in wages over the course of the recovery. What's more, as short-term unemployment has effectively returned to prerecession levels, PTER has increasingly become the dominant negative influence.

Our analysis was methodologically similar to Smith's—his work and the work represented in our previous post were both based on annual state-level microdata from the Current Population Survey, for example. They were not exactly comparable, however, because of different wage variables—Smith used the median wage while we use a composition-adjusted weighted average—and different regression controls.

Here is what we get when we impose the coefficient estimates from Smith's work into our attempt to replicate his wage definition:

140620b

Some results change. The unemployment variables, short-term or long-term, no longer show up as a drag in wage growth. The group of workers designated as "discouraged" do appear to be pulling down wage growth and in ways that are distinct from the larger group of marginally attached. (That is in contrast to arguments some of us have previously made in macroblog that looked at the propensity of the marginally attached to find employment.)

It is not unusual to see results flip around a bit in statistical work as this or that variable is changed, or as the structure of the empirical specifications is tweaked. It is a robustness issue that should always be acknowledged. But what does appear to emerge as a consistent negative influence on wage growth? PTER.

None of this means that the short-term/long-term unemployment debate is unimportant. The statistics are not strong enough for us to be ruling things out categorically. Furthermore, that debate has raised some really interesting questions, such as Glenn Rudebusch and John Williams's recent suggestion that the definition of economic slack relevant for the FOMC's employment mandate may be different from the definition appropriate to the FOMC's price stability mandate.

Our message is pretty simple and modest, but we think important. Whatever your definition of slack, it really ought to include PTER. If not, you are probably asking the wrong question.

Photo of Dave AltigBy Dave Altig, executive vice president and research director, and

 

Photo of Pat HigginsPat Higgins, a senior economist, both of the Atlanta Fed's research department


 

June 20, 2014 in Employment, Labor Markets, Unemployment | Permalink

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June 09, 2014

Looking Beyond the Job-Finding Rate: The Difficulty of Finding Full-Time Work

Despite Friday´s report of a further solid increase in payroll employment, the utilization picture for the official labor force remains mixed. The rate of short-term and long-term unemployment as well as the share of the labor force working part time who want to work full time (a cohort also referred to as working part time for economic reasons, or PTER) rose during the recession.

The short-term unemployment rate has since returned to levels experienced before the recession. In contrast, longer-term unemployment and involuntary part-time work have declined, but both remain well above prerecession levels (see the chart).

Alternative Labor Utilization Measures

Some of the postrecession decline in the short-term unemployment rate has not resulted from the short-term unemployed finding a job, but rather the opposite—they failed to get a job and became longer-term unemployed. Before the recession, the number of unemployed workers who said they had been looking for a job for more than half a year accounted for about 18 percent of unemployed workers. Currently, that share is close to 36 percent.

Moreover, job finding by unemployed workers might not completely reflect a decline in the amount of slack labor resources if some want full-time work but only find part-time work (that is, are working PTER). In this post, we investigate the ability of the unemployed to become fully employed relative to their experience before the Great Recession.

The job-finding rate of unemployed workers (the share of unemployed who are employed the following month) generally decreases toward zero with the length of the unemployment spell. Job-finding rates fell for all durations of unemployment in the recession.

Since the end of the recession, job-finding rates have improved, especially for shorter-term unemployed, but remain well below prerecession levels. The overall job-finding rate stood at close to 28 percent in 2007 and was about 20 percent for the first four months of 2014. The chart below shows the job-finding rates for select years by unemployment duration:

1 Month Job Finding Rate

What about the jobs that the unemployed find? Most unemployed workers want to work full-time hours (at least 35 hours a week). In 2007, around 75 percent of job finders wanted full-time work and either got full-time work or worked PTER (the remainder worked part time for noneconomic reasons). For the first four months of 2014, the share wanting full-time work was also about 75 percent. But the portion of job finders wanting full-time work and only finding part-time work increased from about 22 percent in 2007 to almost 30 percent in 2014, and this job-finding underutilization share has become especially high for the longer-term unemployed.

The chart below displays the job-finding underutilization share for select years by unemployment duration. (You can also read further analysis of PTER dynamics by our colleagues at the Federal Reserve Board of Governors.)

Share of Job Finders

Finding a job is one thing, but finding a satisfactory job is another. Since the end of the recession, the number of unemployed has declined, thanks in part to a gradually improving rate of job finding. But the job-finding rate is still relatively low, and the ability of an unemployed job seeker who wants to work full-time to actually find full-time work remains a significant challenge.

Photo of John RobertsonJohn Robertson, a vice president and senior economist and

Photo of Ellyn TerryEllyn Terry, a senior economic analyst, both of the Atlanta Fed's research department

June 9, 2014 in Employment, Labor Markets, Unemployment | Permalink

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Excellent work.

Posted by: Larry Signor | June 21, 2014 at 08:04 PM

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June 02, 2014

How Discouraged Are the Marginally Attached?

Of the many statistical barometers of the U.S. economy that we monitor here at the Atlanta Fed, there are few that we await more eagerly than the monthly report on employment conditions. The May 2014 edition arrives this week and, like many others, we will be more interested in the underlying details than in the headline job growth or unemployment numbers.

One of those underlying details—the state of the pool of “discouraged” workers (or, maybe more precisely, potential workers)—garnered special attention lately in the wake of the relatively dramatic decline in the ranks of the official labor force, a decline depicted in the April employment survey from the U.S. Bureau of Labor Statistics. That attention included some notable commentary from Federal Reserve officials.

Federal Reserve Bank of New York President William Dudley, for example, recently suggested that a sizeable part of the decline in labor force participation since 2007 can be tied to discouraged workers exiting the workforce. This suggestion follows related comments from Federal Reserve Chair Janet Yellen in her press conference following the March meeting of the Federal Open Market Committee:

So I have talked in the past about indicators I like to watch or I think that are relevant in assessing the labor market. In addition to the standard unemployment rate, I certainly look at broader measures of unemployment… Of course, I watch discouraged and marginally attached workers… it may be that as the economy begins to strengthen, we could see labor force participation flatten out for a time as discouraged workers start moving back into the labor market. And so that's something I'm watching closely.

What may not be fully appreciated by those not steeped in the details of the employment statistics is that discouraged workers are actually a subset of “marginally attached” workers. Among the marginally attached—individuals who have actively sought employment within the most recent 12-month period but not during the most recent month—are indeed those who report that they are out of the labor force because they are discouraged. But the marginally attached also include those who have not recently sought work because of family responsibilities, school attendance, poor health, or other reasons.

In fact, most of the marginally attached are not classified (via self-reporting) as discouraged (see the chart):

140602

At the St. Louis Fed, B. Ravikumar and Lin Shao recently published a report containing some detailed analysis of discouraged workers and their relationship to the labor force and the unemployment rate. As Ravikumar and Shao note,

Since discouraged workers are not actively searching for a job, they are considered nonparticipants in the labor market—that is, they are neither counted as unemployed nor included in the labor force.

More importantly, the authors point out that they tend to reenter the labor force at relatively high rates:

Since December 2007, on average, roughly 40 percent of discouraged workers reenter the labor force every month.

Therefore, it seems appropriate to count some fraction of the jobless population designated as discouraged (and out of the labor force) as among the officially unemployed.

We believe this logic should be extended to the entire group of marginally attached. As we've pointed out in the past, the marginally attached group as a whole also has a roughly 40 percent transition rate into the labor force. Even though more of the marginally attached are discouraged today than before the recession, the changing distribution has not affected the overall transition rate of the marginally attached into the labor force.

In fact, in terms of the propensity to flow into employment or officially measured unemployment, there is little to distinguish the discouraged from those who are marginally attached but who have other reasons for not recently seeking a job (see the chart):

140602b

What we take from these data is that, as a first pass, when we are talking about discouraged workers' attachment to the labor market, we are talking more generally about the marginally attached. And vice versa. Any differences in the demographic characteristics between discouraged and nondiscouraged marginally attached workers do not seem to materially affect their relative labor market attachment and ability to find work.

Sometimes labels matter. But in the case of discouraged marginally attached workers versus the nondiscouraged marginally attached workers—not so much.

Photo of Dave AltigBy Dave Altig, executive vice president and research director,

Photo of John RobertsonJohn Robertson, a vice president and senior economist, and

Photo of Ellyn TerryEllyn Terry, a senior economic analyst, all of the Atlanta Fed's research department

June 2, 2014 in Employment, Federal Reserve and Monetary Policy, Labor Markets, Unemployment | Permalink

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I think this note usefully shows that the categories of unemployment are vague, the distinctions arbitrary, but then we knew that. But what is to be done?

Posted by: Tom Shillock | June 03, 2014 at 03:05 PM

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