Fed Governor Tarullo spoke at the World Leaders Forum last week about unemployment. It was a great “summarization” of the debate over the cause of troubles in our labor market. (I only put summarization in quotes because it is a long-speech that is more of a summary from a nerd perspective.) While his take away was promoting further monetary easing, he did bring up some important points for understanding what is going on with unemployment and income inequality.
To start with, labor market dynamics over the long-term:
That said, there are some discouraging longer-term trends. Even before the recession, the labor market seemed to be on a slower trajectory than in previous decades…. Two tendencies in particular suggest that the U.S. labor market has lost some of the dynamism that had long contributed to its resilience. First, it is apparent that job reallocation–that is, the sum of the jobs created at some businesses and lost in others–has been in secular decline since the late 1990s. It may seem counter intuitive to include lost jobs in a measure of labor market health, and on its own it is obviously not such an indicator. But when combined with new jobs, it forms part of the dynamic of job reallocation, an important part of the “creative destruction” that contributes to long-run economic growth–for example, as jobs shift from less-productive firms to more-productive ones.
Second, the amount of employee movement across jobs has fallen over time. Specifically, the rate at which workers move from one firm to another has declined. So has the rate at which workers quit jobs, an indication of the degree to which they believe there are better jobs available for them. In what may be a related trend, geographic mobility across counties and states has decreased.
Homeownership, it turns out, also contributes to labor immobility. The broader point to take away, though, is that it is incorrect to assign blame for today’s labor market and economic woes to just the recession (Dec 2007 to June 2009) or financial crisis (liquidity freezing starting in July 2007 to bottom of the stock market in March 2009) or even the decade-long debt build up in households. There are deeper issues that are coming to the surface at a time when the crisis and recession have become an amplifying factor.
Next, income inequality:
Longer-term patterns in the types of jobs being created have also contributed to a widening gap in wages and income between the richest and poorest Americans. Adjusting for inflation, earnings for a worker in the middle of the wage distribution have risen about 10 percent since 1980, while earnings for a highly paid worker at the 90th percentile of the wage distribution have risen more than 30 percent during the same period. Earnings for workers near the low end of the distribution–those around the 10th percentile–have risen only about 5 percent after taking inflation into account. Thus, as has been widely observed, the gains from economic growth over the past three decades have disproportionately accrued to the highest wage earners.
To some degree, growing wage inequality reflects rising returns to education. Since 1980, the average wage for college graduates has increased from about one and a half times the average wage for workers with only a high school degree to about two times their wage. The good news is that this rise has encouraged more young Americans to enroll in college. The fraction of 18- and 19-year-old high school graduates who are enrolled in college rose from around 50 percent in 1980 to nearly 70 percent today. Even the good news must be qualified, however, since half this rise took place in the 1980s, and the pace of increase has slowed since then. The bad news is that less-educated adults with significant work experience and younger, inexperienced adults who are ill prepared for, or unable to afford, college may be increasingly excluded from future economic gains.
So, when it comes to income inequality, Tarullo notes that real wages have risen for nearly all workers since the 1980s, it is just that they have risen 30 percent for high wage earners and only 5 percent for those at the bottom of the wage distribution. That means the pie is expanding for all, just faster for some, not inherently a bad thing. If everyone at the bottom of the wage distribution was earning a million dollars (versus, say, a trillion for the top), that would be wage inequality, but not necessarily bad for the bottom. So income inequality isn’t inherently bad. It is bad when it means that college has become viewed as a requirement to get a good job, and its costs are being driven up by outside factors (see here, and here).
More on income inequality but focusing on the shifts in employment opportunities:
This widening inequality has been described as the result of a broader trend toward “occupational polarization.” This theory posits that the diffusion of computer-related technologies, the related automation of routine work, and an increased capability for firms to move their activities offshore have combined to concentrate job creation in the poles of either high-skill, high-wage employment or low-skill, low-wage work. The high-skill occupations increasingly require at least a bachelor’s degree. Demand has shifted away from traditional middle-class occupations. The kinds of workers who would have been employed in a traditional manufacturing or administrative job now often end up in lower-paying jobs.
Younger workers have historically filled many of the lower-paying service-sector jobs that are now more likely to be taken by less-educated adults. Thus, occupational polarization may be responsible for some of the rapid decline in employment and labor force participation among young people over the past decade. While part of this decline is likely attributable to the pursuit of additional education, employment and participation rates have also fallen for those youth who are not attending school, suggesting that education-related explanations are not the whole story. Indeed, research by the Federal Reserve Board’s staff has found that greater crowding-out from adults can account for much of the decline in youth participation. This crowding-out may have undesirable long-term consequences for the current generation of younger adults, as some research finds that poor job opportunities early in one’s working life can lead to lower employment and wage rates in the future.
We have discussed several times on this blog this very issue, usually in reference to the manufacturing sector. There are more and more IT related jobs, and that is one sector with the most openings right now. Many jobs have shifted from manufacturing to service sector jobs as automation has revolutionized how we make things. And increased costs of labor from regulatory burdens to health care costs to environmental restrictions have resulted in a large number of manufacturing business needs being met by plants placed outside the U.S. The large number of stable, low-paying jobs that used to exist are just changing and gone. Plus, since the baby boomers are such a large generation and these lower paying, less skilled jobs have gone away, younger adults have struggled to get work and the impact of that has carried through the decades.
Finally, the key point of debate. Tarullo admits:
If the high level of unemployment is predominantly structural in origin, then the increase in aggregate demand intended by various monetary and fiscal policies would presumably be of limited efficacy.
I would argue that it is. I did so last month in my faux-Obama jobs speech—basically, structural unemployment can be caused by: 1) the inability to sell your house and move for a job, 2) skills mismatches. And I think it is fair to say, as Tarullo does, that the hinge point for policy action is based on your view of this point.
Tarullo goes on to offer a counter argument to my position and argue that aggregate demand is what is keeping us down, so we need more stimulative monetary policy.
Yet it seems quite likely that there is something at work beyond an adverse feedback loop involving personal consumption expenditures, investment, and employment. The obvious candidate for that additional factor is the high amount of debt–particularly household debt–that accumulated before the financial crisis. With the bursting of the housing bubble, debt levels that may have looked manageable to consumers who believed their homes were appreciating suddenly appeared burdensome as house prices declined. In some parts of the country, this decline was dizzyingly rapid. There has been some progress in working off or writing down some forms of debt, such as credit card balances. But housing continues to hang like an albatross around the necks of homeowners and the economy as a whole, with millions of underwater mortgages, a staggering inventory of foreclosed homes, and depressed levels of sales.
What, then, are the policies best suited to increase aggregate demand? It must first be said that neither monetary nor fiscal policy will be able to fill the whole aggregate demand shortfall quickly. But appropriate policies could surely boost output and employment. There have also been suggestions that attempts to boost aggregate demand will be unsuccessful when the amount of debt overhang is significant. I agree that without more effective efforts to address the manifold problems affecting the housing market, there is a good chance that the recovery will lack strong momentum for some time to come. But aggregate demand policies are still important. For one thing, debts will surely be less burdensome as incomes rise. Moreover, the confluence of housing debt and aggregate demand problems suggests that particular attention should be paid to policies that could buttress aggregate demand while addressing at least some housing market problems. […]
Some have argued that monetary policy should do no more, and that the political branches of government should adopt fiscal or other policies to encourage increased economic activity and job creation. I certainly do not disagree that well-conceived policies by other parts of the government could produce gains in employment, investment, and spending. But the absence of such policies cannot be an excuse for the Federal Reserve to ignore its own statutory mandate. The Federal Reserve Act requires that the FOMC promote the goals of maximum employment and stable prices. […]
Within the FOMC and in the broader policy community, there has been considerable discussion of possible additional accommodative measures, from communication strategies such as forward guidance on the likely path of the federal funds rate to additional balance sheet operations. I believe we should move back up toward the top of the list of options the large-scale purchase of additional mortgage-backed securities (MBS), something the FOMC first did in November 2008 and then in greater amounts beginning in March 2009 in order to provide more support to mortgage lending and housing markets. (Emphasis added.)
I agree that the debt overhang is killing us, but thus far Tarullo has not linked how monetary expansion will help with the debt problem. A few paragraphs down, we get the connection.
A large-scale MBS purchase program has many of the benefits associated with purchases of longer-duration Treasury securities, such as inducing investors to shift to other assets, including bonds and equities. But it could also have more direct effects on the housing market. By increasing demand for MBS, such a program should reduce the effective yield on those MBS, which in turn should put downward pressure on mortgage rates. The aggregate demand effect should be felt not just in new home purchases, but also in the added purchasing power of existing homeowners who are able to refinance. Indeed, homeowners who refinance get the equivalent of a permanent tax cut. Concerns about central banks making sectoral credit allocation decisions are understandable in general. But here we are talking about a widely traded instrument in a sector that appears, now more than ever, to be central to the slow pace of recovery.
This whole policy argument hinges on a belief that lower mortgage rates will solve the problem. Where I disagree with Tarullo is that there are not very many potential homebuyers out there right now just waiting until mortgages rates go from 4 percent to 3 percent. Nor is the mortgage rate what is holding back refinances (it is much more related to negative equity, refi costs, and bank backlogs). So of none of that happens, you don’t get the aggregate demand impact. That does not disprove Tarullo’s aggregate-demand-is-the-problem argument, but it does create a substantial push back on his purposed solution. And Tarullo even goes on to suggest that programs be put in place so that underwater households that can not refinance under normal conditions be given exemptions (a tacit realization of the weakness of his proposal, as the Fed can not change refi terms, even at the GSEs).
Read the whole speech here.