Forward Ho!

Forward Ho!
Wednesday, September 21, 2016
See the pdf and the collection of the individual charts linked below.(1) Yellen is the master of the wagon train. (2) Hurry up and wait? (3) Why good news might support doing nothing, or not much. (4) Depending on Fed officials’ interpretation of the data. (5) Forward guidance is confusing when different Fed officials point in different directions. (6) Two possible versions of FOMC statement followed by Yellen’s spin. (7) Fed-ATL measure showing higher wage inflation. (8) Trump’s world. (9) Blame technology, not globalization, for job losses, low pay, and income inequality.

The Fed: Depending on Data. “Forward ho” on the old Wagon Train TV series meant “Let’s get moving.” In the army, they say “forward march.” But in a wagon train, people are walking, running, riding, and herding cattle. Rather than say “forward walk,” “forward run,” “forward ride,” and “forward herd,” the wagon master simply said “forward ho,” and everyone knew it was time to follow his lead to new territory.

Fed Chair Janet Yellen is our wagon master. In her 8/26 speech at Jackson Hole, she essentially said to saddle up: “Indeed, in light of the continued solid performance of the labor market and our outlook for economic activity and inflation, I believe the case for an increase in the federal funds rate has strengthened in recent months.” But in the next sentence, she basically said “not so fast”: “Of course, our decisions always depend on the degree to which incoming data continues to confirm the Committee’s outlook.”

The Fed remains data dependent. The data mostly suggest that it is time to move forward with another rate hike at today’s meeting of the FOMC. Among the strongest economic indicators are the ones for the labor market. Just last week, we learned that real median household income rose during 2015 by 5.2% y/y, the best one-year gain since the start of the data in 1968! It’s not the most comprehensive measure of income, but it is widely watched and is pointing in the right direction.

Ironically, such good news may convince FOMC officials, particularly the doves, to postpone the next rate hike yet again. Why risk upending the improvement in the labor market now that so many workers who have been seeking employment unsuccessfully for so long are finally finding it?

In other words, the Fed’s action depends not only on the data but also on how Fed officials choose to interpret the data. In recent weeks, Melissa and I have tracked the divergent views of the talking Fed heads, with some arguing for moving forward and others essentially saying “let’s stay put for a while longer.”

In her Jackson Hole speech, Yellen touted “forward guidance” as one of the tools in the Fed’s tool kit. She mentioned it 13 times. She indicated that it has worked well for the Fed: “Extended forward rate guidance–announcing that we intended to keep short-term interest rates lower for longer than might have otherwise been expected–also put significant downward pressure on longer-term borrowing rates, as did guidance regarding the size and scope of our asset purchases.” Prior to the 2008 financial crisis, “the Fed occasionally used forward guidance pertaining to the likely future path of interest rates, but that guidance was usually confined to a relatively short time frame,” Yellen observed in a footnote.

The wagon master needs to clear up the latest confusion among the other wagon drivers or else the Fed’s forward guidance will lose its credibility, since they are pointing in different directions. She will have a chance to do so at her press conference this afternoon. Just before it starts, the FOMC statement will announce a decision either to hike the federal funds rate or not to do so. If it is hiked, odds are that Yellen will say that the process of normalizing monetary policy will remain very gradual and that the peak in the federal funds rate during this tightening cycle might be closer to 2% than 3%.

If the decision is to do nothing now, then the statement is likely to be even more hawkish about the prospects for a rate hike before the end of the year. That could raise an embarrassing question for Yellen at the press conference: “Madam Chair, did the FOMC postpone a rate hike as a result of the coming presidential election?” Of course, she’ll dance around that, but the suspicion will be that liberal members of the FOMC don’t want to hurt Hillary Clinton’s chances of winning. The truth might be that the liberals figure that there’s no rush to tighten now that the labor market is open to almost anyone with a pulse.

The 9/18 WSJ included an article titled “Fed Hits Crossroads on Unemployment.” It nicely summarized the split among the various wagon drivers at the Fed:

(1) “On one side are officials, including governors Lael Brainard and Daniel Tarullo, who say there’s still room for improvement in the labor market. Allowing unemployment to fall further below its current 4.9% level would give more Americans–especially minorities–a chance to come back to the labor force and share in the gains of the expansion, they say.”

(2) “The counterargument from officials such as San Francisco Fed President John Williams is that letting the jobless rate get too low could cause prices to surge, forcing the Fed to ratchet up short-term interest rates faster than they’d like. That could trigger a downturn that would hurt minorities most.”

There is one important data point that remains disappointing for Yellen. Average hourly earnings, a measure of the wage rate for nonsupervisory and production workers, was up just 2.5% y/y during August (Fig. 1). She has said that 3.0%-4.0% is the goal for this variable. On the other hand, the FRB-ATL research department tracksmedian wage growth. The overall growth rate was 3.3% y/y during August. It was 3.1% for job stayers vs. 3.8% for job switchers (Fig. 2). Wages increased 3.4% for both prime-age workers and workers with a college degree (Fig. 3).

Globalization I: Trump’s Attack. Last week, in an interview with Fox, Donald Trump blasted Ford, the automaker, continuing an ongoing public feud with the company’s CEO Mark Fields. Ford had announced last year that it intends to transfer a production plant from Michigan to Mexico. Trump quickly jumped on this move to support his protectionist platform: “When they make their car and they think they’re going to get away with this … when that car comes back across the border into our country–that now comes in free–we’re going to charge them a 35% tax.”

Fields countered Trump on CNN, saying that his accusations regarding US job losses at Ford were entirely false. He said that “not one job will be lost.” The move is aimed at making Ford’s small cars more profitable while making room in a US factory to build a pair of highly profitable new vehicles.

The Ford saga is just one specific example of the wider debate over globalization and its impact on the US labor market that’s taken center stage during this election cycle. But is it fact or fiction that globalization has had a detrimental effect on the US labor force? Consider the following:

(1) Trump’s message hits home. Trump has repeatedly hammered home his message that globalization is directly resulting in job losses and suppressing wages across America. Whether literal or metaphorical, building walls between our country and others has become an integral part of Trump’s rhetoric. While he has been outlandish at times, his message clearly has resonated with lots of voters, bringing him very close to occupying the White House next year.

Opposing globalization can be an effective political campaign strategy, as Melissa and I discussed in our 6/2 Morning Briefing titled “Globalization & Its Discontented.” It’s a simple concept to understand. It also creates common enemies for Trump supporters to rally around: It’s us versus them nasty foreigners. So let’s circle the wagons!

(2) Spurious data. Trump has had no trouble finding macroeconomic data that supports his insular views. On numerous occasions, the would-be President has cited all the would-be workers that remain on the sidelines of the labor force. And yes, it’s true that the number of people who are NILFs (not in the labor force) has increased significantly in recent years to reach a record high of 94.4 million during August (Fig. 4). However, most of them don’t want a job because they’re retired, disabled, caring for others, or in school. While a small fraction of those NILFs, i.e., 6.2% during August, actually wanted to return to work, they may not possess the skills or experience to fill job openings, now at record levels (Fig. 5). The ratio of unemployed workers to job openings dropped to 1.32 during July, the lowest since April 2001 (Fig. 6).

As we discussed on Monday, Trump continues to argue that the standard of living has stagnated for most Americans since 2000. However, the income measure he cites is based on the Census Bureau’s survey of money income, which isn’t comprehensive, as we mentioned above. In fact, during 2015 the personal income measure exceeded it by $6.2 trillion (67%) (Fig. 7)!

Globalization II: Blame Technology. Even if Americans indeed are faring better on an aggregate basis than so many headlines suggest, there is more persuasive evidence to support the notion that income inequality has worsened. Renewed focus on this theme came last year with the release of Thomas Piketty’s bookThe Economics of Income Inequality. That’s a much broader subject for discussion in the future. For now, assuming that income inequality has risen, could globalization be responsible?

It seems to be obvious that cheap labor in countries like Mexico and China has taken good high-paying jobs away from many American workers. However, technological advancement coupled with a skills mismatch might actually be more to blame. Consider the following:

(1) “The China Shock.” That’s the title of a widely discussed February 2016 paper by three labor economists. Its central point is as follows: “Adjustment in local labor markets is remarkably slow, with wages and labor-force participation rates remaining depressed and unemployment rates remaining elevated for at least a full decade after the China trade shock commences. Exposed workers experience greater job churning and reduced lifetime income. At the national level, employment has fallen in U.S. industries more exposed to import competition … but offsetting employment gains in other industries have yet to materialize.”

A widely circulated April 2016 article, appearing in the National Review and Cato Institute’s commentary, aimed to debunk that thesis. The author, Scott Lincicome, retorted that “there remains no evidence that imports are the primary driver of U.S. manufacturing-job losses.” US manufacturing workers began dropping as a share of the labor force in the late 1940s (Fig. 8). The author observed that this downtrend predated the existence of NAFTA and came before Chinese imports were “more than a rounding error” in US GDP.

“Indeed, even the most pessimistic academic studies on imports and manufacturing jobs have found only a limited connection between the two,” Lincicome continued. Specifically, he cited a 2013 study by the same economists who wrote the 2016 China paper. The earlier study found that “’import competition explains [only] one-quarter of the contemporaneous aggregate decline in US manufacturing employment’ between 1990 and 2007.” Economist Scott Sumner contributed to the discussion in a blog post, contending that the 2016 China paper didn’t discuss all the jobs created in high tech and business services as a result of China trade. However, he notes that they did make a small admission to that effect in a footnote.

(2) Technology shock. So then, what’s to blame? In a 2014 article from the MIT Technology Review, Erik Brynjolfsson, coauthor of a prominent 2014 book on the subject, is quoted as stating that “technology is the main driver of the recent increases in inequality.” Supporting evidence for that theory, highlighted by Cato, was found in a 2015 Ball State University study in which economists attributed nearly 90% of the US manufacturing job losses in recent years to productivity gains. It observed: “Had we kept 2000-levels of productivity and applied them to 2010-levels of production, we would have required 20.9 million manufacturing workers. Instead, we employed only 12.1 million.”

(3) Fiscal shock. Another Cato commentary, on 8/15, theorized that, whatever the cause, it’s ultimately fiscal policies that can help workers in obsolete jobs or industries transition to new ones. The author explained: “Policies that reduce dynamism in the labor market–minimum wage laws, protectionist occupational licensing, various taxes and regulations–make it more difficult for businesses and workers to match up after economic disruption.”

As noted above, recent labor market data corroborate that there’s no lack of open positions for workers in the US, though it has been hard for employers to find qualified employees to fill them. The August 2016 NFIB survey of small business owners found that 30% of them had open positions that were hard to fill. That was the highest reading since the start of the recovery.

The bottom line is: Blame technology, government regulations, and poorly skilled workers–not globalization–for job losses, low pay, and income inequality. Of course, that’s not a winning presidential campaign theme.