It seems to me that there is an increasing disconnect between the decisions of the Fed Open Market Committee (FOMC) and the economists that feed it with information. For example, the FOMC continues to talk about how it has to ensure inflation expectations remain well-anchored while its economists publish papers showing how inflation expectations do nothing to rein in inflation.
Another example has been published a month ago by Bart Hobijn from the Chicago Fed and Aysegül Sahin from the University of Texas. They looked at all the missing jobs in the US economy and found that most of these are – well – not really missing at all. Remember that the FOMC keeps arguing that the strong job market in the US is evidence that the economy is still running hot and that further interest rate hikes are needed to cool demand. At the heart of this argument is the chart below that shows the number of jobs is still some 5.8 million below where it would be had the pre-Covid trend persisted.
Number of jobs in the US vs. pre-Covid trend
Source: Hobijn and Sahin (2022)
According to the Fed and many economists, there are many millions of jobs that cannot be filled because too many people have retired or otherwise dropped out of the workforce during the pandemic and that should keep wage pressures high as companies try to fill these jobs by outbidding each other for workers.
Hobijn and Sahin explain very clearly how this number of 5.8 million missing jobs is in fact just 0.8 million missing jobs and the rest can be explained by methodological errors. The bulk of the 5.8 million jobs is due to a simple trend extrapolation of the pre-Covid trend in job creation. The problem with this is that job creation was extremely strong in the five years before Covid and if that trend had continued into 2022, the unemployment rate would by now be 2.3%, a level we never reached in modern times. Thus, by extrapolating the boom times of 2015 to 2019 into the future, many millions of ‘missing’ jobs were created that would never have existed had the pandemic not happened. The job market would have cooled off on its own anyway.
The second methodological error is to not include the decline in population growth. We are in a decade-long period where the growth in employment slows down because the populous baby boomer generation is retiring or has retired and the new entrants into the job market are Millennials. And there simply aren’t as many Millennials around as Baby Boomers, so the growth in workforce declines anyway creating an even bigger gap between the number of jobs and the number of workers.
Finally, the third major factor is that before the pandemic there was a steady decline in labour market participation rates. This trend likely has persisted after the pandemic, but it is unclear if it has accelerated or abated. In any case, ignoring this structural decline in labour market participation leads to another couple of ‘missing’ jobs that aren’t really missing at all.
You may say that is all a bit academic. What does it matter if there are 5.8 million missing jobs or 0.8 million missing jobs? Well, it matters a lot because if the FOMC thinks that there is too much demand for labour it will keep on hiking interest rates to cool that demand. And by doing so, the FOMC is effectively pushing the economy into a deeper and more severe recession.
This reminds me of one of the early formative experiences of my career. After the 2001/2002 recession, the Fed kept interest rates low for a long time. The key argument back then was that unemployment rates remained high after that recession indicating to the Fed that it needed to stimulate the economy through low rates. The recovery after that recession was thus often classified as a jobless recovery. In fact, what drove the jobless recovery was globalisation where jobs lost in the US were created in China and other emerging markets. The result of this Fed policy error was to keep interest rates too low for too long and fuel a real estate bubble that would eventually trigger the 2008 financial crisis.
Today, it seems to me as if the Fed risks making the error in the opposite direction. By hiking interest rates too much, it creates a major recession that will take longer to get out of and as a result curb growth for several years to come. Maybe it would be good if the folks at the FOMC start reading the research that their own staff publishes? Maybe monetary policy wouldn’t be the mess it is today if they did?