Despite the “jobless” character of the economic recovery and expansion since late 2001, the Federal Reserve remains on a determined course to raise interest rates. It has already raised its federal funds target 11 times since late 2004.
Part of the justification for the Fed’s relentless policy is the impressive decline in the unemployment rate over the last two years, from 6.1 percent in mid-2003 to 5.1 percent in September. This fall in the unemployment rate, while welcome, does not in fact signal a strong labor market. A full four years into the recovery, the unemployment rate remains well above pre-recession levels (which reached 3.9 percent).
But the unemployment rate itself is an inadequate measure of the availability of jobs. As the unemployment rate has fallen, the share of the working age population with jobs has remained at levels well below those reached during the previous economic expansion. This share was 62.8 percent in September compared to 64.4 percent in September 2000. At this rate, there would have been approximately 3.6 million more jobs in the economy in the fall of 2004.
Of equal concern, however, the standard unemployment rate provides no measure of the quality of jobs. To provide a more comprehensive measure of labor market performance, we developed two new indicators. They both add further evidence that the labor market in the current expansion has not returned to the strength achieved in the economic expansion of the late 1990s.
The first of our new indicators addresses the unemployment rate. Like the Labor Department’s unemployment rate, this indicator is measured as a share of the labor force. It includes the traditionally defined number of unemployed and involuntary part-time workers (those who want full-time work). But we also include workers who are paid very low wages – less than two-thirds of the median hourly wage for full-time workers.
This low-wage threshold came to $10.43 an hour in 2004. By comparison, the poverty line wage for a full-time worker in a three-person family was $8.44 an hour (assuming 50 weeks of work a year and 35 hours per week, or 1750 annual hours). We have assumed conservatively that a “low wage” should be at least this much higher than a poverty wage. Many argue that a significantly higher wage than $10.43 is required to keep an individual, much less a three-person family, out of poverty.
Table 1 below shows that there has been improvement in recent quarters in both the standard unemployment rate and our measure compared to the average rate over the preceding three years. In particular, the underemployment rate improved markedly in the first quarter of 2005 over the previous quarter.
Despite the gains, however, the underemployment rate of 31.8 percent in the first quarter of 2005 is significantly above its highest level of the Clinton expansion – 30.8 percent in 2000. If the recent expansion had reduced the underemployment rate to levels reached in 2000, there would now be approximately 1.4 million fewer underemployed workers. Our concern is that the underemployment rate will revert to the levels of late 2004. Indeed, the improvement in the first quarter was unusually large and half of it was attributable to a sudden decline in the low-wage share of jobs. We hesitate to draw conclusions based on one quarter’s move. If the average underemployment rate for 2000 had prevailed in the fourth quarter of 2004, we would have had approximately 2.6 million fewer underemployed workers at the end of last year.
Our second new indicator considers adequacy of employment. This indicator provides a measure of the ability of the labor market to produce decent jobs for its total civilian working population. It measures the proportion of the working age population (16+) with a job that pays more than two-thirds of the median wage for full-time workers and that is not involuntarily working part-time.
As Table 2 shows, this measure shows improvement in the most recent quarter, reflecting the sharp decline in the share of low-wage jobs noted above.
But even if the impressive first quarter results hold up, an adequate employment rate of 42.3 percent is not satisfactory. We again compare the current state of the labor market to the period just prior to the last recession. If the adequate employment rate had reached the level attained in the Clinton expansion (43.9 percent for the year 2000), approximately 3.4 million more Americans would have held adequate jobs in the first quarter of this year. Even more striking, if we applied the year 2000 adequate employment rate to the last quarter of 2004, America would have had almost 4.7 million more adequate jobs at the end of last year.
We believe that the weak state of the current labor market requires significantly more attention from economists and the media. The poor performance of job markets is raising serious new doubts concerning the conventional claims that GDP growth will provide a decent standard of living for all.
In light of our new indicators and other corroboratory evidence – falling median wages and falling levels of family income – we in particular urge the Federal Reserve to reconsider its intention to tighten policies further.
The rising energy prices due to Hurricane Katrina have apparently provided still further justification, in the Fed’s thinking, to raise rates. The Fed governors seem to want, above all, to avoid a repeat of the inflationary experience of the 1970s.
In our view, the last few years are not sufficiently similar to the inflationary 1970s to warrant these concerns. Organized labor is far weaker today; the levels of core inflation are lower than the levels reached in the late 1960s and early 1970s that preceded the rapid run-up in prices; the rise in energy prices today is significantly less than the dramatic, wrenching hikes of 1973-74 and 1978; and the share of wages in GDP is much lower than it was in the 1970s.
Frankly, we wonder why, in light of overwhelming evidence, so few policymakers have called attention to the weak state of the labor markets. Is this really the time to be stepping hard on the brakes? To the contrary, the late 1990s demonstrated the benefits of a truly tight labor market. Only then did income inequality at last level off as wages finally rose for lower wage workers.
In light of these factors, a core inflation rate above 2 percent is not a threat to the economy. Public statements by former Princeton economist Ben Bernanke, President Bush’s nominee as chairman of the Federal Reserve, suggest that a 2 percent core inflation rate may be his upper limit. In light of the factors raised above, we urge him to raise his sights.
Our full report can be found at http://www.newschool.edu/cepa.
David Howell is professor of economics at Milano Graduate School at The New School and is a faculty fellow at the Bernard Schwartz Center for Economic Policy Analysis. He is the author of Fighting Unemployment: The Limits of Free Market Orthodoxy (Oxford University Press.)
Jeff Madrick is editor of Challenge Magazine and director of policy research at the Bernard Schwartz Center for Economic Policy Analysis at The New School. His latest book is Why Economies Grow (Basic Books).
Melissa Mahoney is a doctoral student at The New School.