Andreas Hornstein, a senior adviser at the Richmond Fed, says the
unemployment rate, currently at 6.3 percent, effectively captures
the level of slack in the labor market.
To Mary Daly, a top economist at the Fed's regional branch in San
Francisco, a full assessment should go beyond the jobless rate to
take into account stagnant wages, the large numbers of long-term
unemployed and a drop in labor force participation.
"We don't really have a really, tight labor market," she said.
With near-zero interest rates leaving the U.S. central bank little
room for fresh steps to spur growth, policymakers are likely to hold
off tightening monetary policy until a clearer picture emerges,
current and former Fed officials and many private economists say.
"A year from now the Fed is going to be dealing with whatever the
data is at that point," said Jim McDonald, Northern Trust's chief
investment officer. For now, "their bias is to err on the side of
waiting longer, as opposed to tightening faster."
By most accounts, the jobless rate is higher than Fed officials
would like it to be. But differences are becoming more pronounced
over how much more room the economy has to run before labor-market
tightness risks sparking inflationary wage pressures.
Interpreting the tightness of the labor market has been complicated
because the decline in the jobless rate, which hit a post-recession
peak of 10 percent in October 2009, has been accompanied by a big
decline in the proportion of working age Americans participating in
the labor market.
Daly estimates a quarter to a third of Americans who left the
workforce in recent years will return once the job market gets hot.
In her view, their return will keep a lid on earnings, which have
been largely stagnant.
Only when the unemployment rate nears 5 percent, she said, would she
"expect to see the beginnings of some upward pressure on wages."
And even then, she said, the rise will be gradual, giving the Fed
ample time to respond.
"It is not the case that if you didn't get ahead of that you would
be missing otherwise rapid wage growth," she told Reuters. "We don't
have historical reasons to think that we are going to go flat, flat,
flat, and shoot up."
Richmond Fed's Hornstein is less sanguine.
"There is some evidence that nominal wages tend to lag in the
expansion, that is, nominal wages start increasing well after the
labor market has begun to normalize," he said in an email exchange.
Watching wages could, in other words, lull the Fed into a false
sense of safety, leaving it facing inflation with little warning.
So, too, could reading too much into alternative measures of labor
market slack, his research suggests.
[to top of second column]
Hornstein recently built a broad measure of labor market slack that
incorporates all sorts of people who are not counted as unemployed,
including part-timers who would rather have full-time work, and
workforce dropouts that economists such as Daly expect to jump back
in once job prospects brighten.
After adjusting for the job-finding probabilities of different kinds
of workers, Hornstein found that his new index showed just as much
improvement from the depths of the recession as the regular
"Our index does not suggest that the standard unemployment rate
understates how much slack there is in the current labor market," he
Another reason economists can't agree on the health of the labor
market is the difficulty in estimating how low unemployment can go
before wage pressures start to build.
Fed officials estimate that figure falls somewhere between 5.2
percent and 5.6 percent, but it can fluctuate.
In March, Daly's boss, San Francisco Fed President John Williams,
published research that suggested the "normal" rate of unemployment
may have risen to around 6.5 percent.
Not only is that higher than the current rate of unemployment, it is
also a full percentage point above what Williams has repeatedly said
is his own view of "normal."
Williams did not explain the discrepancy.
Daly, asked about Williams's research, said that stagnant wages
suggest there is still plenty of labor market slack, and stuck to
her estimate for sustainable unemployment of 5 percent.
Hornstein, for his part, declined to give an estimate.
"People disagree on that," he said.
(Reporting by Ann Saphir; Editing by Ken Wills)
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