What goes down must come up?
Let's suppose your friend told you about a great new diet that promised to get your weight back down to normal. Cool, eh. Now let's suppose you talked to a bunch of people who all told you the same thing -- after losing a lot of weight on this diet they would always regain it again -- and often would end up weighing more than when they began. I would stay away from that diet. The story for the unemployment rate is not too different from this diet. The chart below helps you see the similarity.
The Fed has a dual mandate. In addition to controlling inflation it is also supposed bring about full employment. Since we don't know how to measure full employment this at least means the Fed is trying to reduce the unemployment rate. As long as UN is higher than some pre-ordained amount or so long as labor market conditions do not signal imminent inflation, the Fed stays with its mission to reduce UN.
Listening to the FED one might think that the goal of low unemployment is something you can shoot for and then attain. Once attained all that work should pay off for a while. While it is true that reductions can last for a while, what is also true is that once you drive the UN rate too low -- it spits back at you. Just look at the graph below. Notice the sudden upward spikes that quickly undo almost all the good that came before.
- In 1953 UN almost doubled in one year from 2.9% to 5.6%
- In 1958 it jumped from 4.3% to 6.8%
- Between 1969 and 1971 it jumped from 3.5% to 6%
- Between 1979 and 1981 it increased from 5.9% to 7.6%
- Between 1950 and today there were at least nine periods in which the unemployment gradually fell from a high level only to bounce back to an equally high level.
- If you draw a trend line through the whole chart it suggests that whatever process was making UN go up and down over time was raising the average unemployment rate in the long-run
- Drawing a trend line after 1980 you get a downward slope or a flat slope. But the minimum unemployment rates are still much higher than in the pre-1970s.
Notice that most of the Fed discussions these days revolve around whether or not rising inflation is imminent. So long as inflation is not ever present, the Fed seems confident that its focus on unemployment is without risk. But today's story and chart has said nothing about inflation. Today we are discussing UN and UN. The relevant question is when does Ms. Yellen stop pushing UN down? This chart says it isn't clear exactly when to stop. Before the 1970s if the Fed stopped pushning at 4% or 5% UN, they might have averted a resumption of high UN. But notice how all that changed in the 1970s. In that decade pushing UN below 6% was dangerous.
With UN at about 6% today, Ms Yellen suggests that we look at other labor indicators as she continues with her hand on the throttle. Sixty years of UN suggests she refocus policy before we find ourselves with another horrible spike in UN -- one that will leave us with few policy tools left to employ.
The problem we see playing out over and over is not hard to understand. Which is better when cutting down a large dead tree: a chain saw or a hundred unemployed workers with nail files? While the latter seems inefficient but human -- it is not. Unemployed workers want real solutions not temporary band-aids. The labor market can be temporarily satisfied by bursts of money but the real fixes to sustained increases in unemployment have to follow from the real causes of the unemployment problem. What is causing UN to fall so slowly in the USA? Why are people dropping out of the labor force? Why are wages so slow to increase? I doubt any of this has to do with too little money in the economy. Focus on those things and maybe we won't have to suffer another terrible UN spike in 2015.