A take on labor force participation and the unemployment rate

By now, if you've been paying attention to the coverage following the April employment report, you know the following:

• The March to April decline in the unemployment rate from 8.2 percent to 8.1 percent was arithmetically driven by yet another decline in the labor force participation rate (LFPR).
• The decline in the LFPR, now at its lowest level since the early 1980s, is itself being influenced by a confounding mix of demographic change and other behavioral changes that nobody seems to understand—a point emphasized by a gaggle of blogs and bloggers such as Brad DeLong, Carpe Diem, Conversable Economist, Free Exchange, and Rortybomb, to name a few.

With respect to the first observation, in a previous post my colleague Julie Hotchkiss described how to use our Jobs Calculator to get a ballpark sense of what the unemployment rate would have been had the LFPR not changed. If you follow those procedures and assume that the LFPR had stayed at the March level of 63.8 percent instead of falling to 63.6 percent, the unemployment rate would have risen to 8.4 percent instead of falling to 8.1 percent.

It is clear that interpreting this sort of counterfactual experiment depends critically on how you think about the decline in the LFPR. The aforementioned post at Rortybomb cites two Federal Reserve studies—from the Chicago Fed and the Kansas City Fed—that attempt to disentangle the change in the LFPR that can be explained by trends in the age and composition of the labor force. These changes are presumably permanent and have little to do with questions of whether the labor market is performing up to snuff.

The following chart, which throws our own estimates into the mix, illustrates the evolution of the actual LFPR along with an estimate of the LFPR adjusted for demographic changes:

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As the header on the chart indicates, our estimates suggest that roughly 40 percent of the change in the LFPR since 2000 can be accounted for by changes in age and composition of the population—in essentially the same range as the Chicago and Kansas City Fed studies. (If you are interested in the technical details you can find a description of the methodology used to generate the chart above, based on work by the University of Chicago's Rob Shimer.

In other words, 0.9 percentage points of the decline in the LFPR since the beginning of the past recession can be explained by demographic trends (as the baby boomers age, the labor force will grow more slowly than the total population [ages 16 and up]). Subtracting the demographic trends still leaves 1.5 percentage points to be explained, a number right in line with Brad DeLong's back-of-the-envelope calculation of "cyclical" LFPR change.

As DeLong's comments make clear, the interpretation of the nondemographic piece of the LFPR change requires, well, interpretation. And the consequences of connecting the dots between changes in the unemployment rate and broader labor market performance are enormous.

In the recently released Summary of Economic Projections following the last meeting of the Federal Reserve's Federal Open Market Committee, the midpoint of the projections for the unemployment rate at the end of 2013 is 7.5 percent. Turning again to our Jobs Calculator, we can get a sense of what sort of job creation over the next 20 months will be required given different values of the LFPR. For these estimates, I consider three alternatives: The LFPR stays at its April level, the LFPR reverts to our current estimate of the demographically adjusted level (that is, increases by 1.5 percentage points), and an intermediate case in which the LFPR increases by 0.7 percentage points—the lower end of DeLong's estimate of "people who really ought to be in the labor force right now, but who are not."

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DeLong asks:

"Are [people who really ought to be in the labor force right now, but who are not] now part of the 'structurally' non-employed who we will never see back at work, barring a high-pressure economy of a kind we see at most once in a generation?"

As you can see, the answer to that question matters a lot to how we should think about progress on the unemployment rate going forward.

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

 

Symmetric goals, asymmetric risks

Mark Thoma has been hanging out with my boss or at least was at the same conference, where Thoma had a chance to try out his reporter chops:

"I just got out of a press conference with Dennis Lockhart (Atlanta Fed president) and Charles Evans (Chicago Fed president). I can't say there was any real news, but I did manage to ask a question... I asked whether the 2% inflation target was truly symmetric."

Thoma got an answer, though seemingly not one that left him totally convinced:

"Both insisted that the target is symmetric. However, Lockhart said that we know much more about the effects of inflation than deflation, and that preventing deflation was therefore job number one (which doesn't really answer the question). He didn't explain what he is so afraid of if inflation goes up...

"Evans, while explicitly agreeing the target was symmetric, made comments that indicated that it may not be. He said the Fed has not done a very good job of communicating its tolerance around the 2 percent target, both up and down, and they need to improve. But if the target is really symmetric, simply saying that (along with the tolerable range) is all that is required. Talking separately about tolerance for over and under-shooting isn't needed."

Evans' and Lockhart's statements stand on their own, but we've collected some information via the Atlanta Fed's Business Inflation Expectations survey that helps me think about the Thoma question. The chart below plots the answers, collected in the February and April surveys, to the following query: "Projecting ahead, to the best of your ability, please assign a percent likelihood to the following changes to unit costs per year over the next five to 10 years."

The question focuses on unit labor costs in order to elicit responses about what businesses may actually be planning for, as opposed to their guesses about a more abstract concept of overall inflation. The question focuses on expectations five to ten years into the future because the inflation goal of the Federal Open Market Committee (FOMC) is explicitly a long-run objective.

The obvious pattern in these survey responses is their asymmetry to the upside. The most probable outcome, according to the respondents, is that long-term costs will rise in a range that includes the FOMC's long-run inflation objective. But they also put an almost 50 percent probability on annual outcomes higher than 3 percent. Less than 20 percent probability is placed on costs rising at rates of less than 1 percent.

This picture is one of asymmetric risks to the inflation outlook, and as such it is an important element in thinking through policy choices. Symmetry in the sense of having an equal distaste for misses on either side of an objective does not necessarily imply symmetry with respect to the risks of meeting that objective.

To begin with, the Fed does have a dual mandate. Disinflation or, in the extreme, deflation has the potential to be problematic for growth and employment when interest rates are very low. The reason, if you buy the analysis, is that, with no room for rates to move lower, a decline in inflation raises the real cost of borrowing. A higher cost of borrowing restrains spending, creating an additional drag on economic activity in already tough circumstances.

The reverse argument has, of course, been made for temporarily tolerating inflation that is somewhat higher than the long-run objective. But even if you aren't quite sold on the wisdom of that approach—and I'll get to that in a bit—it is clear that, with policy rates near zero, misses to the downside on inflation bring risks to the Fed's growth mandate that are not implied by misses to the upside. Hence President Lockhart's comment regarding the importance of preventing deflation.

So why not respond to this asymmetric risk to growth by taking a chance on higher inflation? That question takes us back to the chart above. Taken at face value, the probabilities reported by our survey respondents suggest that the FOMC has been pretty successful in convincing folks that very low rates of inflation or deflation will not be allowed to set in. Perhaps this conviction is not surprising given the relatively aggressive responses of the committee to the disinflation scares of 2003 and 2010.

But the response to asymmetric risks to growth at low inflation rates may have had the effect of inducing asymmetric risks to the upside with respect to Fed's price stability mandate. Again taken at face value, the results of our business inflation expectations survey definitely imply a one-sided bet by businesses on how the FOMC might miss on its inflation objective. That could well explain why one would be so concerned if inflation rises. Just as there are asymmetric risks associated with below-objective inflation when it comes to the Fed's growth and employment mandate, there are asymmetric risks associated with above-objective inflation when it comes to the price stability mandate.

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

Taking a deeper dive into the definition of inflation

Sometimes our familiarity with a topic gets in the way of our understanding of it. I often think that about inflation. It's widely known that inflation is a condition of rising prices, or what my favorite macroeconomics text defines more precisely in this way: "Inflation is an increase in the overall level of prices in the economy." And while this idea is serviceable for some purposes, it's pretty inadequate if you try to think about how a central bank goes about the business of controlling inflation.

Here's an example. Friday's retail price report for March revealed that prices rose 3.5 percent from February and averaged 3.7 percent (annualized) over the first three months of the year. I think it's pretty clear we have seen an "increase in the overall level of prices in the economy" this year. But how should the Federal Reserve respond to this rise?

I'm not going to offer an answer that question. I'm a policy adviser, not a policy maker. But we need to dig a little deeper into the textbook to get a better understanding of the inflationary process and how a central bank contributes to that process before we offer up an opinion on the matter.

The inadequacy of the textbook definition of inflation is a topic that's been bugging me for a long time. It's silent about the cause of the rise in prices and therefore does not make any distinction about whether the price increase is a corollary of the policies of the central bank or from another source that a central bank can only nominally influence. This distinction is an important one. (For what it's worth, this 1997 article I wrote explains how I think the term "inflation" has come to be synonymous with "price increase." And here's why I think a deeper appreciation of what constitutes "an increase in the overall level of prices" affects how one thinks about the inflationary experience in real time.)

Here's how economist Irving Fisher put it in his 1913 article "The Monetary Side of The Cost of Living Problem":

"If it can be shown, for instance, that today the good things of this world are becoming scarce on the one hand while money and its substitutes are not becoming plentiful it would be reasonable to conclude that the fault lies with goods and not with money. If, on the contrary, it can be shown that money and its substitutes are becoming plentiful and that goods are not becoming scarce, it is reasonable to conclude that the fault lies chiefly on the monetary side."

Are all price increases inflation? Should central banks use their tools to fight against any rise in costs? The answers to these questions have important implications for how we measure inflation in the short run versus the long run, the horizon over which a central bank ought to be held accountable for achieving price stability, and how monetary policies should be calibrated in the face of rising prices.

In that spirit, the Atlanta Fed has developed an animated video that provides additional perspective on the issue of inflation—specifically, what sorts of price increases are part of the inflationary process that is under the control of the central bank, and which are not. This video is the first in a new series that covers economic issues and the work of the Fed. The video is part of the Atlanta Fed's new feature called "The Fed Explained," which includes a range of new and existing content. We hope these videos stimulate conversation on a range of topics important to the Federal Reserve. The format is targeted to the general public as well as to students and teachers, and we hope it provides an engaging supplement to the study of the Federal Reserve.

Let us know.

Mike Bryan, vice president and senior economist at the Atlanta Fed

Is the composition of job growth behind slow income growth?

Harold Meyerson, Washington Post opinion writer, channels a Bloomberg report (via The Big Picture), and thinks he finds a smoking gun:

"Why is this recovery different from all other recoveries?

"... what really sets the current recovery apart from all its predecessors is this: Almost three years after economic growth resumed, the real value of Americans' paychecks is stubbornly still shrinking. According to Friday's Bloomberg Economics Brief, ‘the pace of income gains is well below that of the past two jobless recoveries and real average hourly earnings continue to decline.'

"The Bloomberg report cites one reason for this anomaly: Most of the jobs being created are in low-wage sectors. According to Bloomberg, fully 70 percent of all job gains in the past six months were concentrated in restaurants and hotels, health care and home health care, retail trade, and temporary employment agencies. These four sectors employ just 29 percent of the country's workforce but account for the vast majority of the jobs being created."

Meyerson accurately repeats the Bloomberg story, but that story itself is somewhat misleading. To begin with, the 70 percent figure appears to include the entire category of professional and business services, of which temporary help services are only a part. The types of jobs that fall under the professional and business service label are broadly described by the U.S. Bureau of Labor Statistics and include employment in scientific and technical services, management jobs as well as administrative and support type jobs. In particular, the professional scientific and technical services sector is described as follows...

"The Professional, Scientific, and Technical Services sector comprises establishments that specialize in performing professional, scientific, and technical activities for others. These activities require a high degree of expertise and training. The establishments in this sector specialize according to expertise and provide these services to clients in a variety of industries and, in some cases, to households. Activities performed include: legal advice and representation; accounting, bookkeeping, and payroll services; architectural, engineering, and specialized design services; computer services; consulting services; research services; advertising services; photographic services; translation and interpretation services; veterinary services; and other professional, scientific, and technical services."

... and here is the description of management of companies and enterprises sector:

"The Management of Companies and Enterprises sector comprises (1) establishments that hold the securities of (or other equity interests in) companies and enterprises for the purpose of owning a controlling interest or influencing management decisions or (2) establishments (except government establishments) that administer, oversee, and manage establishments of the company or enterprise and that normally undertake the strategic or organizational planning and decision making role of the company or enterprise. Establishments that administer, oversee, and manage may hold the securities of the company or enterprise."

These parts of the economy are hardly made up of the prototypical low-wage jobs and, according to my calculations, you don't get to Bloomberg's 70 percent number without including them.

If you focus strictly on "restaurants and hotels" (or, more precisely, the leisure and hospitality sector), health care, retail, and temporary employment services, your conclusion would be that these sectors accounted for about 50 percent of total job growth/change over the past six months, a share that may still strike you as pretty significant. But is it really? A little historical context might help:

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It is true that this expansion, which began in July 2009, has been unusually concentrated in the four sectors identified by Bloomberg and highlighted in the Meyerson piece. However, a closer look reveals that the only one of the four that looks unusual is employment in temporary help services, the share of which in this recovery has been five times the post-1990 level as a whole. (We reach the same conclusion even if we compare where we are today in this recovery—roughly three years out—with that same period following the recoveries from the 1991 and 2001 recessions.)

On the other hand, it is also true that the share of temp services in total jobs gains has been much lower over the past six months than it was earlier in this recovery. I don't know if that share will eventually fall to the (remarkably stable) level that characterized the (almost) two decades before the past recession. But even if that share remains near 12 percent, as opposed the more historical 6 percent level, I think the story remains the broad-based nature of the relatively tepid growth (in incomes and jobs) that has characterized this recovery.

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

 

The structure of the structural unemployment question

In the middle of its thorough analysis of U.S. labor markets, the New York Fed tucked in a direct look at whether persistently high unemployment can be plausibly ascribed to mismatches between the skill sets of unemployed workers and those skill sets required by available jobs. The operating hypothesis goes something like this: structural unemployment arises when the skills that are appropriate for declining sectors are not easily transferable to the jobs available in expanding sectors. In the current context, we can think, for example, about the challenge of turning construction workers into nurses (a metaphor offered a while back by Philadelphia Fed President Charles Plosser). If skill mismatch is an important source of postcrisis unemployment, it stands to reason that we would find its markers in the construction sector.

In fact, the authors (Richard Crump and Ayşegül Şahin) of a New York Fed study find no evidence that construction workers are "experiencing relatively worse labor market outcomes." Though this observation comes with its caveats—in this space my colleagues Lei Fang and Pedro Silos noted that construction workers who are finding employment in nonconstruction businesses apparently have suffered unusually large wage reductions—the Crump-Şahin results generally conform to other research questioning the proposition that skill mismatch looks to be a larger-than-normal problem in the current recovery.

The idea that inter-sectoral flows of employment, or the lack thereof, is a source of structural unemployment has a venerable history in macroeconomics. But it is increasingly clear to me that the bigger story is not about skill mismatches as workers flow across sectors but about mismatches as workers are faced with changing skill requirements within sectors. In other words, the issue is not changing construction workers into nurses, but changing both construction workers and nurses from old-style workers to new-style workers.

"Old style" and "new style" here refer to jobs defined by the performance of routine tasks versus those that require the performance of nonroutine tasks. The labor market outcomes associated with this shift from old style to new style has come to be known as "job polarization." Job polarization is the subject of a new paper by Nir Jaimovich and Henry Siu, described last week by David Andolfatto at MacroMania:

"Job polarization refers to the recent disappearance of employment in occupations in the middle of the skill distribution...

"Evidently, these classifications correspond to rankings in the occupational income distribution. Non-routine cognitive occupations tend to be high-skill jobs, and non-routine manual occupations tend to be low-skill jobs. Routine occupations—both cognitive and non-cognitive—tend to be middle-skill occupations.

"... across three decades, the share of employment in the middle of the skill distribution appears to be disappearing. Prime suspect: routine biased technological change (e.g., think of ATMs replacing bank tellers)."

The post-1980s job polarization trend has received a lot of attentions over the past decade—notable studies by MIT economist David Autor (here and here), for example—but the essential message of the Jaimovich-Siu study is the observation that trend changes are not smooth, but concentrated around downturns in the economy. Jaimovich and Siu explain:

"... job polarization is not a gradual phenomenon: the loss of middle-skill, routine jobs is concentrated in economic downturns. Specifically, 92% of the job loss in these occupations since the mid-1980s occurs within a 12 month window of NBER [National Bureau of Economic Research] dated recessions (that have all been characterized by jobless recoveries). In this sense, the job polarization 'trend' is a business 'cycle' phenomenon... Our first point is that polarization happens almost entirely in recessions.

"Our second point is that jobless recoveries are due to job polarization... jobless recoveries are observed only in... disappearing, middle-skill jobs. The high- and low-skill occupations to which employment is polarizing either do not experience contractions, or if they do, rebound soon after the turning point in aggregate output. Hence, jobless recoveries are due to the disappearance of middle-skill, routine occupations in recessions."

A few posts back, I posed this question:

"[The pace of improvement in employment, overall and by sector,] draw a clear picture of labor markets that are underperforming by historical standards—a position that I take to be the conventional wisdom. An argument against following that conventional wisdom centers on the question of whether historical standards represent the appropriate yardstick today. In other words, is the correct reference point the level of employment or the pace of improvement in the labor market from a permanently lower level?"

The Jaimovich-Siu results really do suggest that the answer could well be the latter. That said, the levels of employment in the broad nonroutine job categories identified in Jaimovich and Siu's paper remain below the peak levels associated with the 2001 recession—something that was not apparently true at this point in the recoveries after the 1990–91 and 2001 recessions.

Furthermore, not everyone agrees that the Jaimovich-Siu case is persuasive. Mark Thoma, for example:

"There is plenty of evidence pointing in the other direction, i.e. plenty of evidence indicating the problem is cyclical and we are nowhere near full recovery.

"With so much uncertainty remaining, the advice from Stevenson and Wolfers in a post... about how policymakers should react when they are unsure of how strong the recovery will be is appropriate:

'... the cost of too little growth far outweighs the cost of too much. If we readily bear the burden of carrying an umbrella when there's a reasonable chance of getting wet, we should certainly be willing to stimulate the economy when there's a reasonable risk that doing nothing could yield a jobless generation.'

"The fact that the costs are asymmetric and what this means for policy—it should lean against the more costly outcome—seems strangely absent from policy discussions and decisions."

It is worth noting that asymmetric costs referenced here are a matter of judgment, not theory. In fact, if the employment losses suffered through the recession are structural, stimulating the economy is exactly the wrong thing to do. (The classic exposition of this point, in math terms, was provided years ago by Michael Woodford.) In this sense, Thoma's argument just begs the question.

And though there may be "plenty of evidence" pointing in the direction of labor market slack, there is also developing evidence of tightness directly related to the job-polarization phenomenon. From Kathleen Madigan, at The Wall Street Journal:

"The U.S. labor market is struggling with a paradox: despite an 8.3% unemployment rate, many jobs go begging.

"The Institute for Supply Management-New York said this week that 20% of its members say the shortage of skilled labor is an obstacle to business. On Thursday, the National Federation of Independent Business [NFIB] reported a rising share of small business owners who say they have jobs that are hard to fill."

Care should be taken not to over-interpret these types of observations. Though the degree of skill shortages reported in the NFIB surveys was higher in 2011 than 2010, it is still well below prerecession levels. As I indicated in my earlier post, in the end the truth is likely to seen in the behavior of inflation. The asymmetry to which Thoma, and Stevenson and Wolfers, appeal is implicitly based on their belief that the risks of inflation are very low. With that in mind, this summary at Angry Bear of the March employment report warrants some notice:

"Recently, unit labor cost has been rising faster than prices, implying margin pressure and very weak profits. To sustain profits growth, firms have to reestablish stronger productivity growth. The weakness in March employment is a strong indicator that business is trying to rebuild productivity growth and profits growth."

The other possibility, of course, is that businesses will try to rebuild profit growth by raising prices.

The story continues to develop. Watch this space.

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

 

Are unemployed construction workers really doing better?

Two New York Fed economists, Richard Crump and Ayşegül Şahin, writing in Liberty Street Economics, have shared some interesting findings regarding developments in the labor market during the ongoing recovery. Their conclusion is that unemployed construction workers, according to several indicators, seem to be doing better than workers who lost jobs in other sectors.

Based on their research, job-finding rates for unemployed construction workers have increased more rapidly than for the overall pool of unemployed. While flows out of the labor force for unemployed construction workers have remained flat, they have increased for those who lost jobs in other sectors. Also, using the Displaced Workers Survey (DWS) conducted by the U.S. Bureau of Labor Statistics, they show that construction workers who find jobs have the same distribution of earnings as other displaced workers who find a job.

These facts, according to the authors, provide support to the hypothesis that problems in the labor market cannot be blamed on the degree of mismatch between displaced construction workers and job vacancies in other sectors.

In this post, we present an alternative view of the fate of unemployed construction workers by looking specifically at unemployed construction workers who find jobs in other industries. Our conclusion is that unemployed construction workers are generally experiencing relatively large wage declines (relative to what they earned before becoming unemployed). Except for the lowest-skilled workers, losing a job and having to take a new job in a new industry generally involves a wage decline. That effect is especially pronounced for construction workers who become unemployed.

The U.S. Census Bureau's Survey of Income and Program Participation (SIPP) followed a panel of workers from 2008 through March 2011. The SIPP asked each worker questions about his or her individual characteristics as well as that worker's labor market experiences. Using the SIPP, we investigated the wage changes workers experience before and after an unemployment spell when their new job is in a different industry. Is the wage effect of switching sectors larger for unemployed construction workers relative to those workers in other sectors? The table displays the results from this exercise looking at the last three recessions.

We divided the sample of unemployed workers according to the broad industry grouping in which they lost their job. However, given the different pool of workers in each sector, we controlled for individual characteristics to isolate the specific effect on wages earned from switching sectors. These characteristics include the level of education, gender, age, whether the worker lives in a metro or rural area, the length of the unemployment spell, and whether the worker is married.

Each cell in the table represents the relative effect of switching industries on the post-unemployment wages of workers in a given industry, having taking into account the heterogeneity in the pool of workers across sectors. For example, of those workers who lost jobs in manufacturing in the 2008 SIPP, those who became reemployed in any of the other four sectors earned 9.9 percent less than those unemployed manufacturing workers who found jobs in the manufacturing sector. For construction workers, the effect of switching sectors reduced wages by 18.8 percent. In our sample, about 50 percent of workers who lost jobs in construction found jobs elsewhere but mostly in the high- and low-skilled service industries. For comparison, we repeated the calculations for other panels in SIPP that include recessions, and the results are displayed in the columns under the 2001 and 1991 headings. It is true that industry-switching unemployed construction workers also experienced large wage declines after the 2001 recession, but the decline for the 2008 panel was considerably larger.

Our conclusion is that drawing inferences about the evolution of job finding and the unemployment rates across different sectors doesn't paint a complete picture of the situation without a comparable look at wage changes for those unemployed. That comparison should also take into account the differences between the attributes of construction workers and workers in other sectors. Our results do not necessarily contradict the facts presented by Crump and Şahin. However, using the SIPP has several advantages relative to using the DWS. It allows us to compare the initial wage after an employment spell relative to the last wage earned (as opposed to average wages in the DWS) and also to control for the length of the unemployment spell that workers experience. Our more disaggregated view of the data indicates that during the 2008 recession and recovery, unemployed construction workers who took jobs in other sectors seem to have done so at a considerable loss in income. The reason may well be a mismatch between the skills they possess and those required by their new job.

Pedro Silos, research economist and associate policy adviser, and

Lei Fang, research economist and assistant policy adviser, in the Atlanta Fed's research department

Why we debate

It's been a while since we featured one of my favorite charts—a "bubble graph" comparing average monthly job changes during this recovery with average changes during the previous recovery, sector by sector.

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If you try, it isn't too hard to see in this chart a picture of a labor market that is very close to "normalized," excepting a few sectors that are experiencing longer-term structural issues. First, most sectors—that is, most of the bubbles in the chart—lie above the horizontal zero axis, meaning that they are now in positive growth territory for this recovery. Second, most sector bubbles are aligning along the 45-degree line, meaning jobs in these areas are expanding (or in the case of the information sector, contracting) at about the same pace as they were before the "Great Recession." Third, the exceptions are exactly what we would expect—employment in the construction, financial activities, and government sectors continues to fall, and the manufacturing sector (a job-shedder for quite some time) is growing slightly.

For the skeptics, I below offer a familiar chart, which traces the level of total employment pre- and post-December 2009, compared with the average path of pre- and post-recession employment for the previous five downturns:

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We are now more than 16 quarters past the beginning of the recession that began in the fourth quarter of 2007, and total employment is still 4 percent lower than it was at the beginning of the downturn. In the previous five recessions by the time 16 quarters had passed, employment had increased by about 6 percent. Even in the worst case, indicated by the lower edge of the gray shaded area, employment growth was flat—and that observation is qualified by the fact that the recovery from the 1980 recession was interrupted by the 1981–82 recession.

This unhappy comparison is not driven by the construction, financial activities, and government sectors. In the area of professional and business services, which has logged the largest average monthly employment gains in the current recovery, the number of jobs still sits 2.7 percent below the level at the outset of the last recession, as the chart below shows.

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Total private-sector jobs in education and health services, which never actually contracted during the recession, nonetheless remain abnormally low in historical context.

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In these charts lies the crux of some very basic disagreements about the appropriate course of policy. The last three graphs draw a clear picture of labor markets that are underperforming by historical standards—a position that I take to be the conventional wisdom. An argument against following that conventional wisdom centers on the question of whether historical standards represent the appropriate yardstick today. In other words, is the correct reference point the level of employment or the pace of improvement in the labor market from a permanently lower level? For the proponents of the latter view, the bubble chart might very well look like a return to normal, despite the fact that employment has not returned to prerecession levels.

One way to adjudicate the debate, in theory, is to rely on the trajectory of inflation. If there remains a significant amount of slack in labor markets, as the conventional interpretation of things suggest, there ought to be consistent downward pressure on prices. The case for consistent downward pressure on prices is not so obvious. Measured inflation appears to moving in the direction of the Federal Open Market Committee's 2 percent long-term objective.

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Also, the Atlanta Fed's own monthly survey of business inflation expectations, which surveys a panel of businesses from our Reserve Bank district, indicates that this inflation number (shown in our March release from earlier this week) is in line with what private-sector decision makers anticipate:

"Survey respondents indicated that, on average, they expect unit costs to rise 2.0 percent over the next 12 months. That number is up from 1.9 percent in February and comparable to recent year-ahead inflation forecasts of private economists. Firms also reported that their unit costs had risen 1.8 percent compared to this time last year, which is unchanged from their assessment in February. Inflation uncertainty, as measured by the average respondent's variance, declined from 2.8 percent in February to 2.4 percent in March, the lowest variance since the survey was launched in October 2011."

Does that settle it? Not quite. There may not be much evidence of building disinflationary pressure, but neither is there building evidence of an inflationary push that you would expect to see if the economy were bumping up against capacity constraints. Obviously, the story isn't over yet.

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

 

Unconventional policy or unconventional circumstances?

Lots of bloggers have expressed lots of different views on what they consider interesting in Roger Lowenstein's new profile of Federal Reserve Chairman Ben Bernanke in The Atlantic. Authors at The Big Picture, Free Exchange, Marginal Revolution, Modeled Behavior, and Real Time Economics, for example, all highlight distinct passages that piqued their individual interests. This is what caught my eye:

"Bernanke's unconventional programs have been implemented in two phases. During the financial crisis of 2007–09, he bailed out a handful of large banks and devised a series of innovative lending operations to disperse credit to banks, small businesses, and consumers (virtually all of these loans have been repaid at a profit to taxpayers). He also lowered short-term interest rates to nearly zero and made private banks run a gantlet of stress tests to ensure some minimal level of solvency going forward. Although fierce anger against the bailouts persists, there is little argument that this first stage was a success. However untidily the rescue was managed, the financial crisis is over.

"In the second stage, Bernanke has sought to revive a weak economy by maintaining short-term interest rates at close to zero, and by purchasing, in vast quantities, long-term Treasury bonds and mortgage-backed securities. This second phase has been, if anything, more controversial than the first. Its success is much harder to measure (we have no way of knowing whether the economy's improvement would have been less robust, and how much so, without Bernanke's efforts). And it has exposed Bernanke to charges of meddling too deeply in the private sector, of disrupting the economy's natural rhythms long past the point when such intervention is necessary. In particular, critics note that the Fed has stuffed the banking system with $1.5 trillion in excess reserves—money for which the banks have no present use, loan demand being modest, but which could one day spark an epidemic of inflation.

"Michael Bordo, a monetary historian at Rutgers, told me that in this second phase, 'Bernanke has moved into areas that were quite different from what the framers had in mind. One of the risks the Fed is facing is of overreach.' "

I want to point out up front that I respect Bordo a great deal. He is a friend and collaborator to many of us at the Atlanta Fed. In fact, he was the co-organizer of our 2010 conference that commemorated the 1910 Jekyll Island meeting that resulted in draft legislation (the Aldrich Plan) for the creation of a U.S. central bank. He is also the co-editor of the proceedings volume from that conference that will be forthcoming from the Cambridge University Press. But I may disagree with his assessment here.

First, just to dispose of the easy stuff, there probably isn't much about "normal" monetary policy that the framers of the Fed had in mind. Legislation creating the Federal Open Market Committee (FOMC) didn't arrive until 1935, and interest rate policy aimed at addressing broad macroeconomic conditions was not likely of much concern to folks preoccupied with birthing a lender of last resort.

But I don't think that is what Professor Bordo has in mind. I think the criticism is that the "purchasing, in vast quantities, long-term Treasury bonds and mortgage-backed securities" represents a discrete break from normal, well-established, plain-vanilla monetary policy as it was understood precrisis.

There are generally two aspects to this criticism, one related to the type of assets that the Fed has purchased and one related to the sheer size of those purchases. The first of these criticisms amounts to the contention that the FOMC should restrict itself to dealing in Treasury securities alone and that the foray into the mortgage-backed security market represents an unwise exercise in credit allocation. Personally, I have some sympathy with this concern ( articulated over a decade agoby former Richmond Fed president Al Broaddus and former Richmond Fed research director Marvin Goodfriend), but I have also expressed my view that such forays might be understood as substitutes for normal policy in conditions in which normal policy is constrained by circumstances.

And so it is with the scale of the Fed's asset purchases. Normal policy in normal times would drive asset purchases in the service of generating desired movements in short-term interest rates (leading, it is assumed, to effects on a broader set of asset yields). This particular routine is obviously not available when the federal funds rate is at its zero lower bound. But that does not mean the logic of this mechanism is absent in asset purchase programs implemented once that bound is hit. Specifically, one way to think about large-scale asset purchases is that those purchases can replicate the effects of federal funds rate reductions, if only those rate reductions could be implemented.

There are several ways to get at this question—one very nice summary has been provided by Sharon Kozicki, Eric Santor, and Lena Suchanek from the Bank of Canada. At the Atlanta Fed, we have our own version of gauging the effects of large-scale asset purchases. Our approach involves estimating a "virtual federal funds" based on the size of Federal Reserve asset holdings relative to total commercial bank liabilities. The details of how this virtual funds rate is constructed can be found here, but the upshot is in this chart:

Two points. First, the virtual funds rate, which combines the zero actual funds rate with the estimated interest-rate equivalent from the Fed's cumulative asset purchases, is about 200 basis points to the south of zero. Second, as a reference point, the chart compares our virtual funds rate to one version of the Taylor rule that relates the federal funds rate to deviations of gross domestic product from its estimated potential and inflation from the Fed's 2 percent long-run objective. As the chart depicts, this comparison is, as of now, just about right, despite the fact the federal funds rate is constrained near zero.

I hasten to add that the Taylor rule in the chart above is, for present discussion, for reference only. There are certainly plenty of arguments as to why the rule depicted in the chart may not provide the right policy guidance. For example, there are debates over how to appropriately specify the Taylor rule, as reflected in this post by David Papell at Econbrowser. Furthermore, there are arguments as to whether policy more generally ought to be more aggressive at present than any standard Taylor rule prescription.

My intent is not to argue whether policy is, at present, appropriately calibrated. My point is that rather than thinking of large-scale asset purchases as unconventional policy, perhaps we should think of them as conventional policy in unconventional circumstances.

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

What if...? Looking beyond this month's jobs numbers

Today's employment numbers for February illustrate that while mathematically simple, the relationship between employment, unemployment, and the labor force participation rate is complicated.

One might expect that we would have seen a drop in the unemployment rate in February, given the addition of an estimated 227,000 payroll jobs for the month (see the U.S. Bureau of Labor Statistics' Employment Situation for February 2012). However, the share of the working-age population in the labor force (or, rather, the labor force participation rate, LFPR) is estimated to have increased from 63.7 percent in January to 63.9 percent in February. A 0.2 percentage point increase in the LFPR is not unprecedented, but after a year of flat and declining labor force participation, it's notable. There are a lot of reasons why the supply of labor, as represented by the LFPR, rises and falls over time. In the short run, a decision of someone to enter (or re-enter) the labor force could be driven by a reassessment of job prospects. This sort of situation is why the LFPR might rise as an economy improves from a very weak position.

While not its primary purpose, the Federal Reserve Bank of Atlanta's Jobs Calculator, which was introduced last week, can help figure out roughly what the unemployment rate would have been if the LFPR had remained at its January level of 63.7 percent.

From the Jobs Calculator web page, first set the number of months to one. Then set the labor force participation rate to 63.7 percent. Next, adjust the unemployment rate until the average monthly change in payroll employment gets close to 227,000. (For example, an unemployment rate of 7.9 percent results in an estimated change in employment of 250,743, using data from the U.S. Bureau of Labor Statistics's Current Employment Survey. This calculation necessarily assumes that people enter and leave the labor force from unemployment and is only approximate because it's using February data.)

So, if the LFPR had remained at the 63.7 percent it was in January, the unemployment rate would have been roughly 8 percent in February.

Look for enhancements to the Jobs Calculator in the coming months that will make this sort of calculation more straightforward.

By Julie Hotchkiss, a research economist and policy adviser in the Atlanta Fed's research department

 

How many jobs does it take? Introducing the Atlanta Fed's Jobs Calculator

When I began my career at the Atlanta Fed in 2003, the U.S. labor market had not yet started creating jobs on net again after the 2001 recession. The question being asked over and over was, "How many jobs does the U.S. economy need to create in order to lower the unemployment rate by a certain amount?" I even participated in the discussion by writing an Economic Review article on the subject.

Of course, the Federal Reserve's interest in how many jobs it takes to lower the unemployment rate comes directly from Section 2A of the Federal Reserve Act, which states:

"The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates."

This passage is often referred to as the Fed's "dual mandate" for monetary policy. Put simply, the Fed wants to achieve (1) stable prices and (2) maximum employment. Reduction in the unemployment rate is commonly used as a measure of the progress toward the goal of maximum employment.

In a technical sense, answering the question "How many additional jobs over the next Y months are needed to lower the unemployment rate by X percentage points?" does not require a difficult calculation. But it does require some knowledge about the U.S. Bureau of Labor Statistics's (BLS) Household Survey, which gives us the official measure of the U.S. unemployment rate. This survey is based on estimates of the size of the labor force and the number of people employed that are inferred from a survey of individual households. The Household Survey differs from the BLS's Payroll Survey, which provides another estimate of employment from a survey of the payroll of individual businesses. Early each month, the estimate of employment from the Payroll Survey shares the spotlight with the Household Survey's estimate of the unemployment rate when the BLS releases its monthly employment report.

To calculate the change in employment needed to achieve a particular unemployment rate requires an assumption about how much the labor force will grow or an assumption about labor force participation given a particular population growth rate. The more the labor force grows (or the participation rate increases), the more jobs the economy needs to create, on net, to absorb the larger labor force.

In recent months, economists again (here and here) are asking (or pontificating on), "How many jobs does it take...?" To help answer that question, we at the Atlanta Fed have developed a new tool that will make the calculation for you. The tool—called the Jobs Calculator—is available on the Atlanta Fed's Center for Human Capital Studies' web page. (Readers should note that the calculator currently uses data from the January employment report, the most recent one available. When the February report is released on March 9, the data the calculator uses will be updated.)

Using the tool is as simple as choosing the target unemployment rate you want to achieve and when you want to achieve it. The Jobs Calculator produces the average number of jobs that need to be created, on net, per month in order to reach the target in the specified time period. You can even make some adjustments in the assumptions about labor force participation and population growth (and hence labor force growth). Of course, the calculator doesn't answer the questions of what numbers to plug in or why. That's up to you.

Please tell us what you think.

By Julie Hotchkiss, a research economist and policy adviser in the Atlanta Fed's research department