Fed Chair Yellen Correctly Focuses On U.S. Labor Force And Stagnant Wages

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Fed Chair Janet Yellen


The Wall Street Journal recently published an interview with former Federal Reserve Board Chairman Alan Greenspan. He was asked to comment on an address that current Fed Chair Janet Yellen delivered at the International Monetary Fund (IMF) in early July.

In that address, Yellen laid out her strategy to address asset bubbles primarily through using regulation and counter-cyclical capital requirements of financial institutions placed at risk by the bubbles. Her speech was a sage response to what we have learned from the bubbles of the last 25 years.

There is a marked difference in the approaches of the old "King" (Greenspan) and new "Queen" (Yellen) of the Federal Reserve. Greenspan has since realized his faith that banks could be relied upon to regulate themselves was misplaced. But his views on asset bubbles and their management appear to be in a fog compared with Yellen’s clarity of resolve and studious approach. He does hit on a key to Yellen’s approach, which is that the effect of bubbles is related to the extent to which financial institutions are exposed through leveraging their assets. This was the linchpin that turned the crash of home prices into a banking collapse in 2008. And, it is a confirmation that Yellen is on the right track in using stress tests of the banking system to understand the financial systems' exposure to debt-backed asset bubbles.

In 1994, the Federal Reserve had used the blunter instrument of monetary policy to raise interest rates in addressing a fast-rising stock market. Greenspan characterizes that as achieving a soft landing, because the market pulled back momentarily, while employment and the Gross Domestic Product (the value of all goods and services produced by the country) continued to expand. Similarly, he viewed the busting of the “dot com” stock market bubble in 2001 as a success.  But, employment did suffer. While GDP fell by a small amount, job losses continued for two and a half years and it took four years for jobs to recover their previous peak. Median household incomes, the share of the working-age population that is employed and labor force participation,have not recovered from their 1999 peaks.

Yellen clearly has stated her concern for these troubling trends in the labor market on many dimensions, especially on the issue of stagnant wages. But when asked for the genesis of our bubble economy, Greenspan pointed to a slowdown on investment in structures that build economic capacity, which he blamed on slow productivity growth and a bloated government sector that was crowding out private savings and investments. He failed to mention a weak labor market, stagnant wage and median income growth compared with faster productivity growth as killing private savings. This is a clear sign he still doesn’t concede the role of the Fed in slowing employment growth.

Looking at the labor market, this recovery is fragile. The Bureau of Labor Statistics has analyzed what is now an historic string of months with private-sector job growth. Sadly, the leading industry in this recovery has been the restaurant and other eating establishments sectors of the leisure and hospitality industry.  Interestingly, it is a sector that is supposed to be the most sensitive to the recent hikes in the minimum wage at the state and local level. Yet, while jobs in that sector account for 8% of employment, they have accounted for one out of every six new jobs added by the recovery, at a growth rate faster than revenue in that sector. The average weekly earnings of all workers (including managers) in that sector are $311, compared with the national median figure of $780. In part, it is this growing share of low-wage work that helps suppress overall wages. Median wages this quarter are flat compared with last year, while inflation has been running at about 2%.

Equally troubling is labor force participation. The Council of Economic Advisors attributes half the decline in participation since 2008 to the aging of the workforce. The rising share of retirement-age baby boomers among those older than 15 implies a larger share of people would withdraw from work because of retirement. But, one-sixth of the decline they attribute to a weak economy understates the longer-term weakness of the labor market back to 2001, where a clear inflection point bends younger worker participation lower than the pre-2001 trend.

At least we now have a Fed chair who is monitoring the labor market. 


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