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'The Economy Is Often Not So Compliant'

12:00 AM, Apr 19, 2014 • By IRWIN M. STELZER
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All in all, the news can only be described as good. “The recovery has come a long way,” announced the Fed chair to her New York audience. So will the Fed raise interest rates any time soon? Well, no. For one thing, in the view of “many forecasters … a return to full employment … is projected to be more than two years away,” Yellen reported.  For another, even if the Fed’s forecast that “maximum employment” is achieved by the end of 2016 – an unemployment rate of between 5.2 and 5.6 percent – it will be necessary to form “a more nuanced judgment about when the recovery of the labor market will be materially complete.” Maximum employment alone is not enough. Put slightly differently, Yellen wants to be sure that “significant slack” in the labor market is a thing of the past.

In addition to maximum employment, Yellen would want to see a significant drop in the number of long-term unemployed, and in the number of workers involuntarily working short hours, and a rise in the labor force participation rate, and a rise in real wages before considering raising interest rates. She would also want the inflation rate to be moving up from its current annual rate of around 1 percent to the Fed’s target of 2 percent. Absent such an increase, the economy might tip into a deflationary spiral such as saddled Japan with decades of stagnation.

Yellen believes that all of these conditions can be met if only the economy would grow more rapidly. Not for her the argument that monetary policy has reached the limits of its effectiveness. Or that structural changes in the labor market will make it difficult for unskilled and deskilled workers to find work even in a rapidly growing economy – despite the fact that many industries are reporting labor shortages at a time when the unemployment rate stands at 6.7 percent. Or that many employers won’t offer more than 29 hours of work per week lest they be required by Obamacare to pay for health insurance.

Say this for Janet Yellen. She knows the forecasts on which she necessarily relies might be very wrong. “[I]f the economy obediently followed our forecasts, the job of central bankers would be a lot easier … Alas, the economy is often not so compliant.”    

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