Janet Yellen Should Ignore Unemployment Rate: Focus on Inflation and Keep Interest Rates Low.
Matthew Yglesias, Slate: Janet Yellen Should Ignore Unemployment Rate: Focus on Inflation and Keep Interest Rates Low.
Long story short, there’s almost certainly more “slack” in the labor market than the official unemployment rate suggests. We can guess at exactly how much, but there’s no real way to know for certain. Which is another reason why Yellen needs to be a hawk and look at the inflation rate. Official inflation stats are far from perfect, but they do get one thing right: As long as inflation is low and stable, we can be sure the economy isn’t out of slack, regardless of what happens with headline unemployment. Throughout 2013, the inflation rate was very low—driven down by falling domestic energy costs thanks to the oil and gas boom. And in the couple of years before that, inflation was generally below the Fed’s 2 percent target.
When inflation rises above that target and stays there for a while, that will be the sign that the economy’s out of room to run and that the workers out of the labor force are gone forever. Normally the Fed tries to avoid this kind of inflation test, instead using other statistics to tighten monetary policy before even a whiff of inflation occurs. There may be some merits to that approach in ordinary times, but today it would be a mistake. Several years of ultra-low inflation mean we can afford to overshoot on the other side. Meanwhile, the depth of the recent recession and the havoc it’s wreaked on the labor market have left the reliability of our other statistics uncertain. To help the unemployed, the Fed needs to ignore the unemployment rate and press forward with low interest rates until some real inflation materializes.