Sacramento Bee, June 11, 1999
Wichita Eagle, June 13, 1999
Will the Federal Reserve pull the plug on the longest peacetime expansion in American economic history? Friday’s employment report–the economy created a very meager 11,000 jobs in May–may have postponed that decision, but the Fed is still leaning in the direction of raising
Wall Street’s worries about a Fed rate hike have trapped the stock market in a weird parallel universe where good news about the economy is bad for the Dow, and bad news is good. That’s because any sign of economic or job growth is taken as an indication that the Fed will soon raise interest rates. The stock market rallied Friday on the bad news from the employment front.
Most analysts have accepted a rate hike as inevitable. “It’s not so much a matter of if, but when, rates will have to rise,” said Carl Weinberg, chief economist at High Frequency Economics.
But why? Inflation over the last year has been 2.3 percent, which is very low by any historical standards, and stable except for a jump in the month of April. And that jump was due to an increase in oil prices. Raising interest rates in the United States is not going to lower oil prices.Yet the Fed appears poised to risk throwing the economy into a recession, and putting millions of people out of work, by raising interest rates. It’s disturbing that there are so few voices willing to question whether this would be the right decision.
The Fed has been wrong before, as Chairman Alan Greenspan has acknowledged. Until about three years ago, the Fed maintained that 6 or 6.25 percent unemployment was the best we could do. It would tend to raise interest rates in order to slow down the economy when the jobless rate fell below this level.
Then unemployment fell below 6 percent and inflation did not rise. In fact, inflation kept falling, even as the jobless rate was dropping–below 5.5, then 5, then 4.5 percent. So much for that theory.
The Fed gave it up, but may now be like a newly recovering alcoholic about to fall off the wagon. And the big bondholders are always there to encourage the Fed to go back to its old ways. For the bondholders, inflation is the only enemy, since it erodes the value of their bonds. More unemployment is better for them, and in fact they would score a capital gain on their bonds if the Fed accidentally sent the economy into a recession–as it has done in the past.
It’s a bad combination: weak theory and powerful financial interests. And the public is mostly kept in dark about the whole issue. Few Americans are aware that the Fed’s abandonment of its high-unemployment policy has been the most important policy change of the last two decades. We have added about 4 million more jobs and more than $650 billion dollars of additional income today as a result of the Fed’s policy shift.
It is also worth noting that the Fed’s decision to allow lower unemployment has disproportionately benefited poorer workers. The real (inflation-adjusted) wages of the bottom 10 and 20 percent of wage-earners have been rising for the last couple of years, after decades of decline. Unemployment among African-American teenagers and other groups with high unemployment rates has dropped sharply.
The major debates that have raged in Congress over the last decade–for example about balancing the budget or cutting taxes– are quite insignificant in comparison with this historic, but largely unnoticed, change in the Fed’s policy.
Unfortunately, many influential economists have lined up on the wrong side of this argument. They cling stubbornly to their old fears of “tight labor markets,” regardless of the evidence. M.I.T’s Paul Krugman wrote an essay last month in support of Alan Greenspan’s concerns that current low unemployment levels will ignite a spiral of inflation. “A market economy,” writes Krugman, “requires that a certain number of people who want to work be unable to find jobs so that their example will discipline the wage demands of those who are already employed.”
It would be a pity if such callous and outworn thinking were to put an end to the long-awaited gains by some of America’s poorest workers. And even worse if it ground the whole economy to a halt.