Compare and Contrast

There are some different points of view out there about last week Unemployment Situation Report from the Bureau of Labor Statistics. Paul Krugman writes:

The Fed has a so-called dual mandate — it’s supposed to achieve both price stability and full employment. At this point price stability is conventionally taken to mean low but positive inflation, at around 2 percent a year. What does it mean to achieve full employment? For the Fed, it means reaching the Nairu — the nonaccelerating inflation rate of unemployment, which is consistent with that inflation target.

The Fed currently estimates the Nairu at between 5.2 percent and 5.5 percent, and the latest report puts the actual unemployment rate at 5.5 percent. So we’re there — time to raise interest rates!

Or maybe not. The Nairu is supposed to be the unemployment rate at which the economy overheats and an inflationary spiral starts to kick in. But there is no sign of inflationary pressure. In particular, if the job market really were tight, wages would be rising quickly, whereas they are in fact going nowhere.

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The thing is, we’ve been here before. In the early-to-mid 1990s, the Fed generally estimated the Nairu as being between 5.5 percent and 6 percent, and by 1995, unemployment had already fallen to that level. But inflation wasn’t actually rising. So Fed officials made what turned out to be a very good choice: They held their fire, waiting for clear signs of inflationary pressure. And it turned out that the United States’ economy was capable of generating millions more jobs, without inflation, than it would have if the Fed had reined in the boom too soon.

Are we in a similar situation now? Actually, I don’t know — but neither does the Fed. The question, then, is what to do in the face of that uncertainty, with no inflation problem yet in sight.

To me, as to a number of economists — perhaps most notably Lawrence Summers, the former Treasury secretary — the answer seems painfully obvious: Don’t yank away that punch bowl, don’t pull that rate-hike trigger, until you see the whites of inflation’s eyes. If it turns out that the Fed has waited a bit too long, inflation might overshoot 2 percent for a while, but that wouldn’t be a great tragedy. But if the Fed moves too soon, we might end up losing millions of jobs we could have had — and in the worst case, we might end up sliding into a Japanese-style deflationary trap, which has already happened in Sweden and possibly in the eurozone.

What’s worrisome is that it’s not clear whether Fed officials see it that way. They need to heed the lessons of history — and the relevant history here is the 1990s, not the 1970s. Let’s party like it’s 1995; let the good, or at least better, times keep rolling, and hold off on those rate hikes.

Are times actually better? Or are the numbers just better? Louis Woodhill writes:

Government agencies can only report on the past. For example, Friday’s “Employment Situation” report represented the BLS’ best effort to describe labor market conditions as of mid-February. The financial markets operate in real time, and they process price signals, which communicate everything that matters economically about everything going on in the world. This includes how many people in the U.S. have jobs, what kinds of jobs they have, and what they are being paid.

Accordingly, the closing prices of equities, bonds, and commodities on Thursday, March 5, already reflected actual labor market conditions, not just as of three weeks earlier, but all the way up to the closing bell. So, why would a government report on the job environment in mid-February cause the Dow to dive by 1.54%, interest rates on 10-year Treasuries to soar by 6.17%, and the price of gold to plunge by 1.47% on Friday, March 6?

Answer: In the markets’ judgment, the BLS report raised the probability that the “experts” at the Fed will use their discretionary power over money to do something economically destructive. But what?

[…]

Analysts fixated on the reported 295,000 rise in payroll employment, which was considerably higher than the consensus was expecting. However, this number comes from the “Establishment Survey,” which includes a lot of jobs that are assumed into existence via the BLS’ “Birth/Death Model.” The BLS’ “Household Survey” numbers did not support the notion that happy days are here again.

According to the BLS “Household Survey,” total employment increased by only 96,000 during February. The rest of the 274,000 reduction in unemployment was the result of 178,000 working-age people dropping out of the labor force. This brought labor force participation (LFP) back down to 62.83%, which was the level of June 2014-and only slightly above that of November 1977.

Economics is not mathematics and it’s not a physical science. It’s a social science and a social science whose practitioners, because it deals with money, production, consumption, and employment, are very susceptible to letting their social preferences outrun the available data.

In economics behavior is the first thing that should be observed not the last and when people start behaving as though, as Dr. Krugman puts it, “the good, or at least better”, times are rolling, I’ll be more predisposed to believe that they are.