Washington Post Must Have Evidence on the Natural Rate of the Employment to Population Ratio That I Haven’t Seen
Nell Henderson reports on a debate between Ben Bernanke and Congressman Barney Franks:
Federal Reserve Chairman Ben S. Bernanke yesterday rejected a Democratic lawmaker’s suggestion that he consider cutting interest rates to bolster the economy. Bernanke, testifying for a second day on Capitol Hill, this time before the House Financial Services Committee, repeated that the Fed is likely to hold rates steady for a while if slower economic growth nudges inflation lower this year and next as expected. But the Fed also thinks inflation is too high and might go higher, Bernanke said. If he and his colleagues adjust borrowing costs in coming months, they are more likely to raise rates than lower them. “In order for this expansion to continue in a sustainable way, inflation needs to be well controlled,” Bernanke said in response to remarks by committee Chairman Barney Frank (D-Mass.). “If inflation becomes higher for some reason, then the Federal Reserve would have to respond to that by raising interest rates.” Frank had told Bernanke the Fed’s stance was “troubling” to him because the central bank also forecasts the economy will grow at a moderate rate this year, below its long-term average, and that inflation will drift lower over time. “I don’t see how we get a concern of inflation,” Frank told Bernanke. “Why is there not at least an equal chance for there to be a reduction” in interest rates? Bernanke responded that he and his Fed colleagues see several risks that the economy may not behave as forecast, and they would adjust interest rates as needed.
Chairman Ben is better at forecasting than this Angrybear and he certainly has his views on how close we might be to full employment. But the following got Dean Baker riled up:
There is no specific level of unemployment that automatically triggers inflation, Bernanke, a former chairman of the Princeton University economics department, said in response to several lawmakers’ questions. That contrasts with the traditional view of many economists that unemployment below about 5 percent is inflationary. Bernanke’s remarks partly reflect years of research that has debunked the idea of a long-term trade-off between unemployment and inflation. They also reflect the nation’s experience in the late 1990s, when unemployment fell as low as 3.9 percent without causing much inflation.
The article implies that Bernanke’s position is based on a solid body of economic research: “Bernanke’s remarks partly reflect years of research that has debunked the idea of a long-term trade-off between unemployment and inflation.” Actually, Mr. Frank was not proposing that the Fed lower rates with the idea that there would be a long-term trade-off between inflation and unemployment, he was suggesting that the Fed could lower rates and thereby lower unemployment, with no clear impact on inflation. This is exactly the path that Alan Greenspan followed in the mid-90s when he allowed interest rates to stay low and the unemployment rate to continue to fall even though the unemployment rate was already below 6.0 percent, the generally accepted estimate for the NAIRU (non-accelerating inflation rate of unemployment) at the time. The Greenspan experiment refuted the prevailing economic views about the relationship between inflation and unemployment. At this point, there is no widely accepted body of research on this topic. It is inaccurate to imply to readers that Mr. Bernanke is relying on a large body of research in rejecting suggestions for a rate cut. He isn’t.
Let’s make this simple by first stating that Mr. Henderson’s reference to some alleged long-term Phillips curve trade-off was just stupid. I think we’ve all moved past that canard. From time to time, I have mused as to what the Natural Rate of the Employment to Population Ratio might be. The current Employment to Population Ratio is 63.3% and my guess has been that the natural rate is closer to 64%. Some of our conservative blogging economist friends have suggested it might be a little lower than my guess. If Chairman Ben thinks the natural rate is closer to 63.5%, then fine. But there is not a “large body of research” proving me right and him wrong nor visa versa.