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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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May 16, 2014

Which Flavor of QE?

Yesterday's report on consumer price inflation from the U.S. Bureau of Labor Statistics moved the needle a bit on inflation trends—but just a bit. Meanwhile, the European Central Bank appears to be locked and loaded to blast away at its own (low) inflation concerns. From the Wall Street Journal:

The European Central Bank is ready to loosen monetary policy further to prevent the euro zone from succumbing to an extended period of low inflation, its vice president said on Thursday.

"We are determined to act swiftly if required and don't rule out further monetary policy easing," ECB Vice President Vitor Constancio said in a speech in Berlin.

One of the favorite further measures is apparently charging financial institutions for funds deposited with the central bank:

On Wednesday, the ECB's top economist, Peter Praet, in an interview with German newspaper Die Zeit, said the central bank is preparing a number of measures to counter low inflation. He mentioned a negative rate on deposits as a possible option in combination with other measures.

I don't presume to know enough about financial institutions in Europe to weigh in on the likely effectiveness of such an approach. I do know that we have found reasons to believe that there are limits to such a tool in the U.S. context, as the New York Fed's Ken Garbade and Jamie McAndrews pointed out a couple of years back.

In part, the desire to think about an option such as negative interest rates on deposits appears to be driven by considerable skepticism about deploying more quantitative easing, or QE.

A drawback, in my view, of general discussions about the wisdom and effectiveness of large-scale asset purchase programs is that these policies come in many flavors. My belief, in fact, is that the Fed versions of QE1, QE2, and QE3 can be thought of as three quite different programs, useful to address three quite distinct challenges. You can flip through the slide deck of a presentation I gave last week at a conference sponsored by the Global Interdependence Center, but here is the essence of my argument:

  • QE1, as emphasized by former Fed Chair Ben Bernanke, was first and foremost credit policy. It was implemented when credit markets were still in a state of relative disarray and, arguably, segmented to some significant degree. Unlike credit policy, the focus of traditional or pure QE "is the quantity of bank reserves" (to use the Bernanke language). Although QE1 per se involved asset purchases in excess of $1.7 trillion, the Fed's balance sheet rose by less than $300 billion during the program's span. The reason, of course, is that the open-market purchases associated with QE1 largely just replaced expiring lending from the emergency-based facilities in place through most of 2008. In effect, with QE1 the Fed replaced one type of credit policy with another.
  • QE2, in contrast, looks to me like pure, traditional quantitative easing. It was a good old-fashioned Treasury-only asset purchase program, and the monetary base effectively increased in lockstep with the size of the program. Importantly, the salient concern of the moment was a clear deterioration of market-based inflation expectations and—particularly worrisome to us at the Atlanta Fed—rising beliefs that outright deflation might be in the cards. In retrospect, old-fashioned QE appears to have worked to address the old-fashioned problem of influencing inflation expectations. In fact, the turnaround in expectations can be clearly traced to the Bernanke comments at the August 2010 Kansas City Fed Economic Symposium, indicating that the Federal Open Market Committee (FOMC) was ready and willing pull the QE tool out of the kit. That was an early lesson in the power of forward guidance, which brings us to...
  • ...QE3. I think it is a bit early to draw conclusions about the ultimate impact of QE3. I think you can contend that the Fed's latest large-scale asset purchase program has not had a large independent effect on interest rates or economic activity while still believing that QE3 has played an important role in supporting the economic recovery. These two, seemingly contradictory, opinions echo an argument suggested by Mike Woodford at the Kansas City Fed's Jackson Hole conference in 2012: QE3 was important as a signaling device in early stages of the deployment of the FOMC's primary tool, forward guidance regarding the period of exceptionally low interest rates. I would in fact argue that the winding down of QE3 makes all the more sense when seen through the lens of a forward guidance tool that has matured to the point of no longer requiring the credibility "booster shot" of words put to action via QE.

All of this is to argue that QE, as practiced, is not a single policy, effective in all variants in all circumstances, which means that the U.S. experience of the past might not apply to another time, let alone another place. But as I review the record of the past seven years, I see evidence that pure QE worked pretty well precisely when the central concern was managing inflation expectations (and, hence, I would say, inflation itself).

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


May 16, 2014 in Federal Reserve and Monetary Policy, Monetary Policy | Permalink

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May 13, 2014

Pondering QE

Today’s news brings another indication that low inflation rates in the euro area have the attention of the European Central Bank. From the Wall Street Journal (Update: via MarketWatch):

Germany's central bank is willing to back an array of stimulus measures from the European Central Bank next month, including a negative rate on bank deposits and purchases of packaged bank loans if needed to keep inflation from staying too low, a person familiar with the matter said...

This marks the clearest signal yet that the Bundesbank, which has for years been defined by its conservative opposition to the ECB's emergency measures to combat the euro zone's debt crisis, is fully engaged in the fight against super-low inflation in the euro zone using monetary policy tools...

Notably, these tools apparently do not include Fed-style quantitative easing:

But the Bundesbank's backing has limits. It remains resistant to large-scale purchases of public and private debt, known as quantitative easing, the person said. The Bundesbank has discussed this option internally but has concluded that with government and corporate bond yields already quite low in Europe, the purchases wouldn't do much good and could instead create financial stability risks.

Should we conclude that there is now a global conclusion about the value and wisdom of large-scale asset purchases, a.k.a. QE? We certainly have quite a bit of experience with large-scale purchases now. But I think it is also fair to say that that experience has yet to yield firm consensus.

You probably don’t need much convincing that QE consensus remains elusive. But just in case, I invite you to consider the panel discussion we titled “Greasing the Skids: Was Quantitative Easing Needed to Unstick Markets? Or Has it Merely Sped Us toward the Next Crisis?” The discussion was organized for last month’s 2014 edition of the annual Atlanta Fed Financial Markets Conference.

Opinions among the panelists were, shall we say, diverse. You can view the entire session via this link. But if you don’t have an hour and 40 minutes to spare, here is the (less than) ten-minute highlight reel, wherein Carnegie Mellon Professor Allan Meltzer opines that Fed QE has become “a foolish program,” Jeffries LLC Chief Market Strategist David Zervos declares himself an unabashed “lover of QE,” and Federal Reserve Governor Jeremy Stein weighs in on some of the financial stability questions associated with very accommodative policy:


You probably detected some differences of opinion there. If that, however, didn’t satisfy your craving for unfiltered debate, click on through to this link to hear Professor Meltzer and Mr. Zervos consider some of Governor Stein’s comments on monitoring debt markets, regulatory approaches to pursuing financial stability objectives, and the efficacy of capital requirements for banks.

Photo of Dave AltigBy Dave Altig, executive vice president and research director of the Atlanta Fed.


May 13, 2014 in Banking, Capital Markets, Economic conditions, Federal Reserve and Monetary Policy, Monetary Policy | Permalink

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November 20, 2013

The Shadow Knows (the Fed Funds Rate)

The fed funds rate has been at the zero lower bound (ZLB) since the end of 2008. To provide a further boost to the economy, the Federal Open Market Committee (FOMC) has embarked on unconventional forms of monetary policy (a mix of forward guidance and large-scale asset purchases). This situation has created a bit of an issue for economic forecasters, who use models that attempt to summarize historical patterns and relationships.

The fed funds rate, which usually varies with economic conditions, has now been stuck at near zero for 20 quarters, damping its historical correlation with economic variables like real gross domestic product (GDP), the unemployment rate, and inflation. As a result, forecasts that stem from these models may not be useful or meaningful even after policy has normalized.

A related issue for forecasters of the ZLB period is how to characterize unconventional monetary policy in a meaningful way inside their models. Attempts to summarize current policy have led some forecasters to create a "virtual" fed funds rate, as originally proposed by Chung et al. and incorporated by us in this macroblog post. This approach uses a conversion factor to translate changes in the Fed's balance sheet into fed funds rate equivalents. However, it admits no role for forward guidance, which is one of the primary tools the FOMC is currently using.

So what's a forecaster to do? Thankfully, Jim Hamilton over at Econbrowser has pointed to a potential patch. However, this solution carries with it a nefarious-sounding moniker—the shadow ratewhich calls to mind a treacherous journey deep within the hinterlands of financial economics, fraught with pitfalls and danger.

The shadow rate can be negative at the ZLB; it is estimated using Treasury forward rates out to a 10-year horizon. Fortunately we don't need to take a jaunt into the hinterlands, because the paper's authors, Cynthia Wu and Dora Xia, have made their shadow rate publicly available. In fact, they write that all researchers have to do is "...update their favorite [statistical model] using the shadow rate for the ZLB period."

That's just what we did. We took five of our favorite models (Bayesian vector autoregressions, or BVARs) and spliced in the shadow rate starting in 1Q 2009. The shadow rate is currently hovering around minus 2 percent, suggesting a more accommodative environment than what the effective fed funds rate (stuck around 15 basis points) can deliver. Given the extra policy accommodation, we'd expect to see a bit more growth and a lower unemployment rate when using the shadow rate.

Before showing the average forecasts that come out of our models, we want to point out a few things. First, these are merely statistical forecasts and not the forecast that our boss brings with him to FOMC meetings. Second, there are alternative shadow rates out there. In fact, St. Louis Fed President James Bullard mentioned another one about a year ago based on work by Leo Krippner. At the time, that shadow rate was around minus 5 percent, much further below Wu and Xia's shadow rate (which was around minus 1.2 percent at the end of last year). Considering the disagreement between the two rates, we might want to take these forecasts with a grain of salt.

Caveats aside, we get a somewhat stronger path for real GDP growth and a lower unemployment rate path, consistent with what we'd expect additional stimulus to do. However, our core personal consumption expenditures inflation forecast seems to still be suffering from the dreaded price-puzzle. (We Googled it for you.)





Perhaps more important, the fed funds projections that emerge from this model appear to be much more believable. Rather than calling for an immediate liftoff, as the standard approach does, the average forecast of the shadow rate doesn't turn positive until the second half of 2015. This is similar to the most recent Wall Street Journal poll of economic forecasters, and the September New York Fed survey of primary dealers. The median respondent to that survey expects the first fed funds increase to occur in the third quarter of 2015. The shadow rate forecast has the added benefit of not being at odds with the current threshold-based guidance discussed in today's release of the minutes from the FOMC's October meeting.

Moreover, today's FOMC minutes stated, "modifications to the forward guidance for the federal funds rate could be implemented in the future, either to improve clarity or to add to policy accommodation, perhaps in conjunction with a reduction in the pace of asset purchases as part of a rebalancing of the Committee's tools." In this event, the shadow rate might be a useful scorecard for measuring the total effect of these policy actions.

It seems that if you want to summarize the stance of policy right now, just maybe...the shadow knows.

Photo of Pat HigginsBy Pat Higgins, senior economist, and

 

Photo of Brent MeyerBrent Meyer, research economist, both of the Atlanta Fed's research department


November 20, 2013 in Fed Funds Futures, Federal Reserve and Monetary Policy, Forecasts, Interest Rates, Monetary Policy | Permalink

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'The shadow rate ... is estimated using Treasury forward rates out to a 10-year horizon.'

The Wu-Xia paper mentions forward rates, but it also describes a three-factor model incorporating 97 different macro series.

Since June 2013, the shadow policy rate has declined from -0.80% to a series-low -1.98%, while forward rates have been rising.

Is this sharp decline in the shadow policy rate due to changes in the macro series (e.g. accelerating GDP growth, to name one example), changes in forward rates, or both?

Posted by: Jim Haygood | January 13, 2014 at 04:45 PM

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November 12, 2013

The End of Asset Purchases: Is That the Big Question?

Last Friday, Atlanta Fed President Dennis Lockhart delivered a speech at the University of Mississippi, the bottom line of which was reported by the Wall Street Journal's Michael Derby:

Federal Reserve Bank of Atlanta President Dennis Lockhart said Friday that central bank policy must remain very easy for some time to come, although he cautioned the exact mix of tools employed by the central bank will change over time...

"Monetary policy overall should remain very accommodative for quite some time," Mr. Lockhart said... "The mix of tools we use to provide ongoing monetary stimulus may change, but any changes will not represent a fundamental shift of policy"...

That's a pretty accurate summary, but Derby follows up with commentary that feels somewhat less accurate:

The big question about Fed policy is what the central bank does with its $85 billion-per-month bond-buying program. It had widely been expected to start slowing the pace of purchases starting in September, but when it didn't do that, expectations went into flux. Ahead of the jobs data Friday, many forecasters had gravitated to the view bond buying would be trimmed some time next spring. Now, a number of forecasters said the risk of the Fed slowing its asset buying sooner has risen.

Now, the views that I express here are not necessarily those of the Federal Reserve Bank of Atlanta. But in this case, I think I can fairly claim that what President Lockhart was saying was that the big question is not "what the central bank does with its $85 billion-per-month bond-buying program." The following part of President Lockhart's speech—reiterated today in a speech in Montgomery, Alabama—is worth emphasizing:

The FOMC [Federal Open Market Committee] is currently using two tools to maintain the desired degree of monetary accommodation—the policy interest rate and bond purchases. Importantly, the FOMC has stated that it intends to keep the short-term policy rate low at least until the unemployment rate falls below 6 1/2 percent. This "forward guidance" is meant to convey a sense of how long short-term interest rates will stay near current levels.
There is some confusion about how the Fed's forward guidance and asset purchase program relate to each other. I will give you my view.

In the toolkit the FOMC has at its disposal, there is a sense in which asset purchases and low policy rates are complementary. Asset purchases and forward guidance on interest rates are complements in the sense that they are both designed to put downward pressure on longer-term interest rates....

But there is also a sense in which these tools are substitutes. By substitutes I mean that guidance pointing to a sustained low policy rate and asset purchases are discrete tools that can be deployed independently or in varying combinations. They can be thought of as a particular policy tool mix chosen to fit the circumstances at this particular phase of the recovery.

In other words, there is an important difference between changing the amount of monetary stimulus and changing the tools deployed to provide that stimulus. When the only tool in play is the federal funds rate, equating adjustments in the Fed's policy rate with changes in the stance of monetary policy is, while not completely straightforward, relatively simple. With multiple tools in use, however, gauging the stance of monetary policy requires that the settings of all policy instruments be considered.

Suppose that the FOMC does scale back or end its asset purchases? Can that possibly be consistent with maintaining a constant degree of monetary stimulus? Sure, and one obvious option is to use adjustments to the forward guidance portion of the FOMC's current policy to provide additional stimulus as asset purchases are scaled back. There are pros and cons to that approach, many of which surfaced in the discussion of this paper, by the Federal Reserve Board's Bill English, David Lopez-Salido, and Bob Tetlow, which circulated last week. (See, for example, here, here, and here.)

In any event, a decision to replace asset purchases with some other form of stimulus—be it extending forward guidance or another alternative—would necessarily raise the question: Why bother? One answer might arise from the cost and efficacy considerations that the FOMC has identified as part of the calculus for whether to continue with asset purchases.

Here again, the fact of multiple tools is germane. With the option of different policy mixes, altering the asset purchase program on grounds of cost or efficacy need not mean that the costs of the program are large or the purchases themselves lack effect. It need only mean that the costs might be larger, or the purchases less effective, than providing the same set of stimulus with some alternative set of tools. I give the last word to President Lockhart:

Going forward, it may be appropriate to adjust the policy tool mix. That will depend on circumstances and the economic diagnosis of the moment.  

David Altig By Dave Altig, executive vice president and research director at the Atlanta Fed


November 12, 2013 in Federal Reserve and Monetary Policy, Monetary Policy | Permalink

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A few questions:

1) Is lowering the unemployment rate stimulative, or is the FOMC just telling us that NAIRU is lower than they thought when the 6.5% threshold was first established? Or is the FOMC lowering its estimate for the equilibrium rate (as Larry Summers suggested at the IMF?)

2) If lowering the threshold is stimulative (presumably the FOMC wants lower rates for a given level of the output gap), then is changing the mix adding stimulus, keeping it the same, or providing less? How does a policymaker trade tapering for a lower threshold?

Posted by: Money "Bob" | November 12, 2013 at 03:40 PM

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October 03, 2013

Why No Taper? One Man's View

Martin Feldstein will give you three possible reasons why—to some surprise, I gather—the Federal Open Market Committee (FOMC) decided two weeks back to not adjust the pace of its asset purchases:

One possibility is that Bernanke and the other FOMC leaders… never intended to start tapering…

A second possible explanation is that Bernanke and other Fed leaders were indeed anticipating that they would begin tapering QE in September but were startled at how rapidly long-term rates had risen in response to their earlier statements…

The third scenario is that economic activity was clearly slowing, with the future pace of activity therefore vulnerable to even higher interest rates.

Speaking only for myself, I choose Feldstein's third option. He goes a good way to making the case himself:

The annualized GDP growth rate in the first half of 2013 was just 1.8%, and final sales were up by only 1.2%. Although there are no official GDP estimates for the third quarter, private-sector assessments anticipate no acceleration in growth, putting the economy on a path that will keep this year's output gain at well under 2%.

That unfortunate story was pretty clear on the eve of the FOMC meeting—in particular, the lack of evidence that growth in the second half of the year would be an improvement on the already disappointing pace of the first half. Our own internal "nowcast" tracking model was suggesting third-quarter GDP growth in the neighborhood of the sub-2 percent growth that Feldstein cites. And as this table shows, things have not improved since:

131003_e

These facts, of course, were reflected in the downgrade of the 2013 growth forecasts published in FOMC participants' Summary of Economic Projections. But that is not all, as Professor Feldstein reports:

In addition, the Fed's preferred measure of inflation was much lower than its 2% target. The annual price index for personal consumer expenditure, excluding food and energy, has been rising for several months at a rate of just 1.2%, increasing the possibility of a slide into deflation.

And even if you don't go in for inflation measures that exclude food and energy, it doesn't much matter, because all-in inflation was, and still is, also running well below that 2 percent target:

131003_a

Though the August personal consumption expenditures price report finally provided a slight uptick in year-over-year core inflation, there was not even that scant hint of a return to the 2 percent inflation target by FOMC meeting time.

And that was looking a lot like strike number two to me. As Fed Chairman Ben Bernanke explained at the post-meeting press conference, repeating the criteria for adjustments to the FOMC asset purchase program that he laid out in June:

We have a three-part baseline projection which involves increasing growth…, continuing gains in the labor market, and inflation moving back towards objective… we'll be looking to see if the data confirm that basic outlook.

Of the remaining element of the three-part baseline, it is true that 12-month average monthly job gains looked pretty much like they did in June, when the talk of taper got serious:

131003_b

But the momentum—which I measure here as the ratio of three-month average monthly job gains to the 12-month average—was clearly in the downward direction:

131003_c

What's more, the revisions in prior months' employment statistics were running in the wrong direction:

131003_d

As a rule, forecasters don't sweat being wrong. That comes with the territory. But when you are persistently wrong in the same direction, it is time to worry at least a bit.

So, what do we have, then?

  • Inflation is low relative to the FOMC's objective—and has not moved in the direction of that objective with any conviction.
  • GDP growth has disappointed, with the anticipated pickup in second-half growth nowhere in sight.
  • "Continuing gains in the labor market" at the pace seen earlier in the year are looking a little shaky.

I find it pretty easy to see how this fails to add up to satisfaction of the three-part economic conditionality laid out in June by the Chairman (on behalf of the FOMC).

One could argue, I suppose, that the FOMC's explicit tying of asset purchases to improvement in the labor market makes it first among equals in the three-part test (as long as inflation is relatively stable), that similar downward momentum on the job front arose and disappeared in the summer of 2012, and that with a little patience things will appear on track.

Maybe. But I would point out that the reversal of negative momentum in the labor market the summer before was accompanied by the initiation of "QE3" (or at least the MBS part of QE3). You can draw your own conclusions about causality, but there is a fairly convincing case to be made for the proposition that, with the data in hand at the time, a wait-and-see decision was what patience dictated.

That, of course, begs the main question posed in Feldstein's article: When will it be time to taper? On that, and in the spirit of baseball playoff season, get your scorecard here

David Altig By Dave Altig, executive vice president and research director at the Atlanta Fed

October 3, 2013 in Federal Reserve and Monetary Policy, GDP | Permalink

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August 19, 2013

Does Forward Guidance Reach Main Street?

The Federal Open Market Committee (FOMC) has been operating with two tools (well described in a recent speech by our boss here in Atlanta). The first is our large-scale asset purchase program, or QE to everyone outside of the Federal Reserve. The second is our forward guidance on the federal funds rate. Here’s what the fed funds guidance was following the July FOMC meeting:

[T]he Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee's 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored. 

The quarterly projections of the June FOMC meeting participants give more specific guidance on the fed funds rate assuming “appropriate” monetary policy. All but one FOMC participant expects the funds rate to be lifted off the floor in 2015, with the median projection that the fed funds rate will be 1 percent by the end of 2015.



But forward guidance isn’t worth much if the public has a very different view of how long the fed funds rate will be held near zero. The Federal Reserve Bank of New York has a good read on Wall Street’s expectation for the federal funds rate. Its June survey of primary dealers (a set of institutions the Fed trades with when conducting open market operations) saw a 52 percent chance that the fed funds rate will rise from zero in 2015, and the median forecast of the group saw the fed funds rate at 0.75 percent at the end of 2015. In other words, the bond market is broadly in agreement with the fed funds rate projections made by FOMC meeting participants.

But what do we know about Main Street’s perspective on the fed funds rate? Do they even have an opinion on the subject?

Our perspective on Main Street comes from our panel of businesses who participate in the monthly Business Inflation Expectations (BIE) Survey. And we used our special question to the panel this month to see if we could gauge how, indeed whether, businesses have opinions about the future of the federal funds rate. Here’s the specific question we put to the group:

Currently the fed funds rate is near 0%. [In June, the Federal Reserve projected the federal funds rate to be 1% by the end of 2015.] Please assign a percentage likelihood to the following possible ranges for the federal funds rate at the end of 2015 (values should sum to 100%).

In the chart below, we plot the distribution of panelists’ median-probability forecast (the green bars) compared to the distribution of the FOMC’s June projection (we’ve simply smushed the FOMC’s dots into the appropriately categorized blue bars).

Seventy-five percent of our respondents had a median-probability forecast for the fed funds rate somewhere between 0.5 percent and 1.5 percent by the end of 2015. That forecast compares very closely to the 73 percent of the June FOMC meeting participants.



You may have noticed in the above question a bracketed bit of information about the Federal Reserve’s forecast for the federal funds rate: “In June, the Federal Reserve projected the federal funds rate to be 1% by the end of 2015.” Actually, this bit of extra information was supplied only to half of our panel (selected at random). A comparison between these two panel subsets is shown in the chart below.


These two subsets are very similar. (If you squint, you might see that the green bars appear a little more diffuse, but this isn’t a statistically significant difference…we checked.) This result suggests that the extra bit of information we provided was largely extraneous. Our business panel seems to have already had enough information on which to make an informed prediction about the federal funds rate.

Finally, the data shown in the two figures above are for those panelists who opted to answer the question we posed. But, at our instruction, not every firm chose to make a prediction for the federal funds rate. With this month’s special question, we instructed our panelists to “Please feel free to leave this question blank if you have no opinion.” A significant number of our panelists exercised this option.

The typical nonresponse rate from the BIE survey special question is about 2 percent. This month, it was 22 percent—which suggests that an unusually high share of our panel had no opinion on the future of the fed funds rate. What does this mean? Well, it could mean that a significant share of Main Street businesses are confused by the FOMC’s communications and are therefore unable to form an opinion. But a high nonresponse rate could also mean that some segment of Main Street businesses don’t believe that forward guidance on the fed funds rate affects their businesses much.

Unfortunately, the data we have don’t put us in a very good position to distinguish between confusion and apathy. Besides, we’re optimistic sorts. We’re going to emphasize that 78 percent of those businesses we surveyed responded to the question, and that typical response lined up pretty well with the opinions of FOMC meeting participants and the expectations of Wall Street. So, while not everyone is dialed in to our forward guidance, Main Street seems to get it.

Photo of Mike BryanBy Mike Bryan, vice president and senior economist,

Photo of Brent MeyerBrent Meyer, economist, and

Photo of Nicholas ParkerNicholas Parker, senior economic research analyst, all in the Atlanta Fed's research department


August 19, 2013 in Business Inflation Expectations, Economics, Fed Funds Futures, Federal Reserve and Monetary Policy | Permalink

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Forward guidance can prove to be an effective tool for monetary policy, especially, when it is first implemented, as it is unexpected as well. Later on, however, its impact is diminished as it is only the change in expected guidance that might have an impact.

Posted by: Javier | September 21, 2013 at 11:50 AM

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July 05, 2013

A Quick Independence Day Weekend, Post-Employment Report Update

From what I gather, a lot of people took notice of this statement, from Chairman Bernanke’s June 19 press conference:

If the incoming data are broadly consistent with this forecast, the Committee currently anticipates that it would be appropriate to moderate the monthly pace of purchases later this year. And if the subsequent data remain broadly aligned with our current expectations for the economy, we would continue to reduce the pace of purchases in measured steps through the first half of next year, ending purchases around midyear. In this scenario, when asset purchases ultimately come to an end, the unemployment rate would likely be in the vicinity of 7 percent, with solid economic growth supporting further job gains, a substantial improvement from the 8.1 percent unemployment rate that prevailed when the Committee announced this program.

That 7 percent assessment to which the Chairman was referring comes, of course, from the outlook summarized in the Summary of Economic Projections, published following the June 18–19 meeting of the Federal Open Market Committee.

Here are the unemployment forecasts specifically:

Macroblog_2013-07-05A

The highlighted numbers represent the “central tendency” projections for the average fourth quarter unemployment rate in 2013, 2014, and 2015 (in blue) and the “longer run” (in green). Naturally enough, getting to a 6.5 percent to 6.8 percent unemployment rate in the fourth quarter of 2014 is pretty likely to imply the unemployment rate crossing 7 percent sometime around roughly the middle of next year.

So, how do things look after the June employment report? As is our wont, we turn to our Jobs Calculator to answer such questions, and come up with the following. If the U.S. economy creates 191,000 jobs per month (the average for the past 12 months), and the labor force participation rate stays at 63.5 percent (its June level), and all the other important assumptions (such as the ratio of establishment survey to household survey employment) remain the same, then the economy’s schedule looks like this:

Macroblog_2013-07-05B

Note also the implication of this statement...

[T]he Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent , inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee's 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored.

...which certainly aids in understanding this information, from the last Summary of Economic Projections:

Macroblog_2013-07-05C

I will leave it to the principals to articulate whether today’s report materially changes anything contained in last month’s projections. In the meantime, enjoy your weekend.

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


July 5, 2013 in Economics, Employment, Federal Reserve and Monetary Policy, Forecasts, Labor Markets | Permalink

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The analysis describing the decline in the unemployment rate to 6.25-percent in July 2015 assumes that "the labor force participation rate stays at 63.5 percent."

Other than spring 2013, the last time the LFPR was lower than 63.5-percent was in May 1979 ... 34 years ago.  So I don't challenge your arithmetic, but find it highly improbable that the LFPR will stabilize at current levels as the economy expands. People flood into the labor market when jobs become easier to find.

The last time the unemployment rate was at (about) 6.25-percent was in October 2008, at which time the LFPR stood at 66-percent.  In the previous business cycle, the LFPR remained above 67-percent for an extended period between 1997 and 2001.

According to the Jobs Calculator, monthly job growth of 190,000 and a LFPR of 66% would bring the unemployment rate down to 6.25-percent about 94 months from now ... in mid-2021.

Posted by: Thomas Wyrick | July 08, 2013 at 09:33 PM

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June 25, 2013

Getting Back to Normal?

Central to any discussion about monetary policy is the degree to which the economy is underperforming relative to its potential, or in more ordinary language, how much slack exists. OK, so how much slack is there, and how long will it take to be absorbed? Well, if you ask the Congressional Budget Office (and a lot of people do), they would have told you last February (their latest estimate) that the economy was underperforming just a shade more than 4 percent relative to its potential last summer, and that slack was likely to increase a little by this summer (to around 4.7 percent). Go to the International Monetary Fund (IMF), and they tell a very similar story in their April World Economic Outlook. The IMF estimates that the amount of slack in the U.S. economy was about 4.2 percent last year, and they expected it would rise a little to about 4.4 percent this year.

As devotees of our Business Inflation Expectations survey know (and you know who you are), the Atlanta Fed has a quarterly, subjective measure of economic slack in the economy as seen by business leaders. This month, businesses told us something pretty interesting—the amount of slack they think they have narrowed pretty sharply between March and June.

Last March, the panel told us that their unit sales were 7.7 percent below "normal"—similar to their assessments in December and September. This month, however, the group cut their estimate of slack to 4.3 percent below normal, on average (see the table).

130625a

What we find most encouraging about this assessment (well, besides the speed at which the slack was being taken up) is that the improvement was most prominent among small and medium-sized firms. These are firms that, according to our survey and other reports (like this one from the National Federation of Independent Business), have been lagging behind in the recovery. Indeed, in June, mid-sized firms indicated that unit sales were only 1.5 percent below normal, a shade better than the big firms in our panel (see the table).

130625b

A look at the industry composition of our survey reveals that the pickup of slack was relatively broadly based too. Only the firms in the mining and utilities, and the professional and business services areas reported more slack relative to March (and the amounts were pretty small at that). Elsewhere, the amount of slack appears to have narrowed quite a bit.

OK, so slack is shrinking, and according to these estimates, it shrank quite a bit between March and June. Does that mean we should be anticipating growing price pressure? Well, we can turn to our panelists again for an answer, and they say no. Projecting over the year ahead, our panelists report little change in either their inflationary sentiment or their inflation uncertainty (see the table).

130625c

Last Wednesday, at the conclusion of its June meeting, the Federal Open Market Committee said that the recovery is proceeding and the labor market is improving, but inflation expectations remain stable. Our June poll of business leaders appears to have also endorsed this view of the economy.

Photo of Mike BryanBy Mike Bryan, vice president and senior economist,

Photo of Brent MeyerBrent Meyer, economist, and

Photo of Nicholas ParkerNicholas Parker, senior economic research analyst, all in the Atlanta Fed's research department

 

June 25, 2013 in Business Inflation Expectations, Federal Reserve and Monetary Policy, GDP, Inflation, Inflation Expectations | Permalink

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June 05, 2013

The Semantics of Monetary Policy

Tim Duy has some questions for the head man at the Atlanta Fed:

...Atlanta Federal Reserve President Dennis Lockhart...was on the speaking circuit today. Via the Wall Street Journal...

If the Fed does slow the pace of its bond buying, "this is not a decisive removal of accommodation. This is a calibration to the state of the economy and the outlook. It is not a big policy shift, and I would hope the markets understand that," Mr. Lockhart said.

I know that the Fed does not want market participants to associate a slowing of asset purchases with tighter policy. I am not sure, however, that it will be easy to persuade Wall Street otherwise. After all, if the Fed wanted looser policy, they would increase the pace of asset purchases. If more is "looser," then why isn't less "tighter?" Alternatively, is "less accommodative" really different from "tighter"?

I'm reminded of one of my favorite exchanges from the Greenspan years, with the Chairman responding to Senator Jim Bunning about the motivation for rate increases in 1999:

We did raise interest rates in 1999, and the reason is real long-term interest rates were beginning to accelerate. Had we not raised the federal funds rate during that particular period, we could have held it in check only by expanding the money supply at an inordinately rapid rate.

My interpretation has always been that Mr. Greenspan was saying something like the following: A set federal funds rate target means that the Fed stands ready to supply as much money as demanded at that rate. (More precisely, the Fed stands ready to supply the quantity of bank reserves demanded at that rate.)

If the structure of market interest rates changes and the demand for bank reserves accelerates—say, because economic growth picks up—maintaining a set target means that monetary policy will become increasingly expansionary. In other words, in such circumstances, standing pat on a federal funds rate target does not mean that the stance of monetary policy stays the same. Quite the opposite.

Jerry Jordan, my former boss at the Federal Reserve Bank of Cleveland and an avid sailor, used to explain it this way: When a person sets out to sail across a body of water, you will notice that he will often adjust the position of the sails, the orientation of the boat, and so on. If you know something of sailing, you will realize that he is very likely reacting to changes in the currents, the winds, and other environmental factors. And if that is indeed what he's doing, you would not infer that he has changed anything about where he's headed and why he's heading there. In fact, you would infer that without such adjustments he must have fundamentally changed his intentions.

Of course, we are in the current context referring not to federal funds rate adjustments but to the pace and ultimate quantity of asset purchases. But I think the principle is the same: A given pace or total quantity of purchases does not mean the same thing in all economic circumstances. If circumstances change, so does the degree of "accommodation" associated with any particular course of asset purchases.

Semantics? I don't think so, and perhaps this is instructive: In the April survey of primary dealers conducted by the New York Fed, the median response to question of when asset purchases will end was the first quarter of next year. At the same time, the median view on what the unemployment rate would be at that time was 7.1 percent. That view would not be out of line with what you might guess on the basis of the Summary of Economic Projections that the Federal Open Market Committee published following its March meeting.

But, as we noted here following the April employment report, the facts on the ground seem to be shifting. We will, as you know, get an update on the employment situation on Friday, and perhaps today's ADP report (for what it's worth) wasn't encouraging. In any event, in our shop we will process these reports by considering exactly what it means to keep policy about where it is.

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

 

June 5, 2013 in Federal Reserve and Monetary Policy, Monetary Policy | Permalink

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