What a first half! We don’t have a GDP report for the second quarter, but all indications are that first half RGDP growth will come in around 0.00%. Meanwhile, it’s the best half year for jobs since late 1999. When you break things down further, the first quarter was typical of recent years, coming in at 569,000 jobs. Was that held back by winter weather? I’m not sure, but the second quarter was unusually strong, coming in at 816,000 jobs. Wage growth is still running at 2%, so the economy shows no sign of overheating. Some thoughts:
1. This is the natural rate hypothesis in action. Even though NGDP growth remains slow, and indeed is getting slower, wage moderation does eventually allow the labor market to heal. And no, it’s not about discouraged workers leaving the labor force. Recent job growth is far above labor force growth, which is now very slow due to boomers retiring. Indeed if you take the slowing labor force growth into account, then the job growth was actually far, far better in the first half of 2014 than during the housing boom, and even better than 1999.
2. The jobs speed-up may have something to do with the extended unemployment benefits ending at the beginning of the year. But the excess job growth is only a few 100,000s, so there is no sign yet that the extended benefits had a major impact on the unemployment rate. That was my assumption all along, and although the data isn’t strong enough to draw any firm conclusions, I see no reason to change my prior that the recession was mostly about demand, with some modest supply-side factors such as extended UI and 40% higher minimum wages.
3. The Fed has a big NGDP problem. It’s becoming increasingly clear that when the labor market recovers, RGDP growth will be very slow, maybe 1.2%. Add in about 1.8% on the GDP deflator, and 3% NGDP growth looks like the new normal, assuming the Fed intends to stick with 2% PCE inflation targeting. Bill Woolsey wins!! Here’s the problem. The Fed wants to do both of these things:
a. Continue targeting inflation at 2%.
b. Continuing to use interest rates as the instrument of policy.
But it won’t work. At 3% trend NGDP growth, nominal interest rates will fall to zero in every single recession going forward. The Fed will be spinning their wheels just when monetary stimulus is most needed. At some point they will need a new policy instrument/target. Lars Christensen has a very good post discussing a clever idea by Bennett McCallum, but in my view this idea works better for small countries than for the US, which is likely to follow the global business cycle. NGDP futures anyone? Level targeting?
4. Unemployment is likely to fall to the natural rate (estimated by the Fed at 5.6%) quite quickly. There will be a debate about what to do next. It will be the wrong debate. The debate needs to be about where the Fed wants to go in the long run. First figure out where you want to go in the long run, then adjust your short run policy as needed. Otherwise the blogosphere debate will be like a bunch of drunken frat boys arguing about which street to take, when they can’t even agree on which bar they are going to.
Not much blogging over the next few weeks—happy 4th!
Update: The US population age 16 to 64 is growing at about 0.4% per year, and will slow further. In the first half payroll employment rose at an annual rate of more than 2%, and the household survey was up 2.26%. I beg you not to mention “discouraged workers.” That’s the old story, not what’s going on now.
BTW, 3% may well be an overestimate of trend NGDP growth, if current productivity trends hold up.