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When it Comes to the Fed and Jobs, Robert Samuelson Is Worried About Inflation and Martians

2:30 am in Uncategorized by Dean Baker

Last week the Fed announced that it would continue to maintain its zero interest rate policy until the unemployment rate fell below 6.5 percent. While the Fed has always targeted low unemployment in addition to low inflation as part of its legal mandate, this was the first time it had explicitly tied its monetary policy to an unemployment target instead of just an inflation target.

This decision has Robert Samuelson very worried. Samuelson warned that the last time the Fed tried to target both inflation and unemployment was in the 1970s and complains that this ended disastrously. Both parts of Samuelson’s claim are wrong.

In fact, in the decades since the 1970s the Fed has maintained a commitment to lowering unemployment in addition to inflation, even if its priority was always on the latter. It would be very difficult to explain the decision to lower interest rates in the 1995 and again in the recession in 2001 except by a concern over excessive unemployment. This concern is certainly reflected in the transcripts of the meetings from these years. The only difference between last week’s announcement and the Fed’s past actions was the decision to explicitly set an unemployment target for its monetary policy. In the past, analysts would have found it necessary to review the minutes and public statements by members of the Fed’s Open Market Committee to infer a target.

The notion that inflation just exploded out of the blue in the 1970s is also inaccurate, as an examination of price movements of that decade shows.

Source: Economic Report of the President (Table 63).

The chart shows the inflation rate over the last 40 years. The blue line shows the official CPI that is most widely used in public discussions and in most legal contracts. The red line shows the core CPI, which excludes energy and food prices. The green line shows an error adjusted core CPI. In the years prior to 1982, the official CPI used a homeownership component. This measure showed a much higher rate of inflation when mortgage interest rates spiked in the mid-70s and again in the late 70s. In 1982 the index was changed to include an owners’ equivalent rent component that imputes a rent for owner occupied homes. The green line applies this methodology to a core index going back to 1969, in effect showing what a core CPI using the current methodology would have looked like in that period.

As can be seen, there are two notable spikes in the 1970s. In the first, in 1975 the core error adjusted CPI hit 8.0 percent. In the second, the error adjusted core hit 10.0 percent in 1980. In both instances the run up in core prices was preceded by sharp jumps in food and energy prices. The major factor in both cases were big rises in oil prices, the first driven by an oil embargo led by Arab countries and the second by the cutoff of oil flows associated with the Iranian revolution. At the time the United States was far more dependent on oil than it is today, which means that a comparable spike in oil prices would have considerably less impact on prices than it would today.

The error in the CPI in the 1970s almost certainly contributed to the rise in the inflation rate during this period also. At the time, a large segment of the workforce had wage contracts that were explicitly tied to the official CPI. Many other contracts were also tied to the CPI. This means that if the CPI erroneously showed a higher rate of inflation, this error would be directly passed on in higher wages and prices, leading to higher actual inflation. (Alan Blinder and Janet Yellen made the same sort of argument about how much smaller changes in measurement had the effect of lowering actual inflation in the 1990s.) In short, there were two spikes in inflation in the 1970s, both around 4.0 percentage points using current methods, and both driven by extraordinary circumstances which are unlikely to be repeated.

However much Samuelson might be misguided in thinking that another spike in inflation might come up out of the blue, he is even more misguided in his assessment of the consequences. The bad story from the 1970s inflation was the recession of 1981-1982 that was used to bring down inflation. While it’s not clear that such a severe recession was necessary to bring inflation under control (inflation fell sharply everywhere in the world in these years, not just the United States), this recession was much less severe by most measures than the current downturn. While unemployment peaked at almost 11.0 percent in December of 1982, it was down to 8.3 percent by the end of the 1983 and 7.3 percent by the end of 1984. (This was in a context where full employment was thought to be over 6.0 percent unemployment.)

If we infer that in the unlikely event that we get another spurt of inflation that we will have to undergo a downturn similar to the 1981-82 recession to bring it under control, then we would still be in a better world than we are in today. In effect, Samuelson is telling a person suffering from an otherwise terminal case of cancer that the drug that would save him could lead to nausea. While Samuelson thinks this makes the choice of treatments a close call, most other people probably would not see it that way.

Dean Baker is co-director of the Center for Economy and Policy Research. He also writes a regular blog, Beat the Press, where this post originally appeared.

The Recession for College Grads

9:26 am in Uncategorized by Dean Baker

The WAPO has a nicely graphed blogpost telling us that there was no recession for college grads. It shows that employment for college grads has risen at a strong pace since the start of the recovery and is well above its pre-recession level. The problem is that we need a denominator in this story. (This seems to be a recurring problem at the WAPO, like when they tell us about the multi-trillion dollar shortfall projected for Social Security without pointing out that it is equal to around 0.6 percent of future GDP.) Anyhow, fans of fractions can see that there was in fact a serious recession for college grads which still lingers today. As the graph shows, the unemployment rate for college grads rose from less than 2.0 percent before the downturn to a peak of more than 5.0 percent in 2009. Currently it is hovering near 4.0 percent, more than twice its pre-recession level.

Unemployment Rate for People With at Least a College Degree

Source: Bureau of Labor Statistics

So how do we get a doubling of unemployment at a time when college grads are scooping up millions of new jobs? Yes folks, this is where our old friend the denominator comes in. It seems that there has been an even more rapid rise in the number of college grads in the labor force over the last five years as shown below:

People with a College Degree or Higher in the Labor Force

Source: Bureau of Labor Statistics.

So even though college grads were getting more jobs, they were not getting them at a fast enough pace to keep up with the growth in the number of college grads in the labor force. Just to be clear, college grads were still doing well in the scheme of things. Here’s the picture for those at the other end of the educational spectrum, people without high school degrees.

Unemployment Rate for People with Less than a High School Degree


Source: Bureau of Labor Statistics.

As can be seen unemployment also doubled for people with less than a high school degree, but the starting point was much higher at close to 7.0 percent. In fact, this rise in unemployment understates the true impact of the downturn, since many people without high school degrees simply left the labor force as a result of their bleak job prospects. (This undoubtedly happened with some college grads too, but the effect was likely much smaller.)

The moral of this story is that the recession has hit everyone. This is important because some folks could be led to believe from the employment story that the problem is that we just need more people to get college degrees and then they will be able to find good paying jobs. However, when we bring in our old friend the denominator we can see that this is not true. The problem is simply a lack of demand in the economy. Education helps in a downturn as it does during normal times, but even the most highly educated workers are getting whacked by this recession.

Dean Baker is co-director of the Center for Economy and Policy Research. He also writes a regular blog, Beat the Press, where this post original appeared