The economy got some good news this morning in the form of a jobs report that witnessed 270,000 new positions in October, a continued decline in the unemployment rate, and year-over-year nominal wage growth of 2.5 percent — the fastest since 2009. The immediate reaction of traders on Wall Street was to believe that a Federal Reserve move to increase interest rates at its December meeting has become much more likely.
An hour ago the odds of a rate hike in December was 56%, just soared to 72% pic.twitter.com/ilXxBgwQZg— Trista Kelley (@trista_kelley) November 6, 2015
As a forecast, that may well be correct. Federal Reserve staffers and much of the Fed's Open Market Committee are clearly impatient to show the world that the economy is ready to live without zero interest rates as life support. But as a substantive move, December still looks way too early to many people — especially to those concerned with the problems of the poor and others on the margins of economic life.
three more months of jobs reports like today's and maybe the Fed should start considering the possibility of raising rates— Chad Stone (@ChadCBPP) November 6, 2015
Rather than looking at the relatively healthy labor market as an opportunity to raise interest rates, the Fed ought to look at the combination of low unemployment and low inflation as an opportunity to let the economy really roar.
The case for low interest rates
The case that cheap money is to be avoided whenever possible is both remarkably wrongheaded and of incredibly recent vintage.
Back in the 1990s, the Clinton administration wanted to reduce the budget deficit because they perceived that a lower deficit would lead to lower interest rates, which would bring a positive impact to the economy. Back in 2009, when the Great Recession and the Obama stimulus were making the deficit very big, critics warned (wrongly) that "bond vigilantes" would wreck the US economy by bringing higher interest rates.
People knew, in other words, that all else being equal, low interest rates are good. Let me count the ways:
- Low rates make it easier for younger and more cash-strapped people to buy houses, cars, and other durable goods.
- Increased demand for durable goods creates more employment opportunities for building and installing those goods.
- Low rates reduce the need for the federal government to increase taxes or reduce spending.
- Low rates make it easier for state and local governments to make physical infrastructure investments with long-term payoffs.
- Low rates mean that people with money who are hoping to earn a decent return need to seek out more adventurous investment opportunities, making it much easier for innovators and entrepreneurs to obtain funding.
The last point is worth dwelling on. Many people see the relationship between low interest rates and high-tech investments and say that they see a "bubble." The relationship is real, but this is not what a bubble is. Low interest rates are part of the fundamentals of the American economy, and have been for years now. One thing that happens in an economy that has low interest rates is that money flows into the hands of entrepreneurs and innovators rather than being tied up exclusively in financing government debts and plain vanilla mortgages. Having an economy that is friendly to entrepreneurs and innovators is good. It's a reason to hope interest rates stay low.
Inflation is very low
Of course, just because low interest rates are good doesn't mean that you should never raise rates. A central bank that's determined to keep rates low forever regardless of what happens would eventually overheat the economy and produce troubling levels of inflation.
But the United States does not currently have an inflation problem:
- Inflation has run below the Fed's 2 percent target for several years now.
- Inflation is currently falling, due to falling global commodity prices and a rising US dollar.
- Market-based expectations of inflation indicate that people do not think inflation will go above the 2 percent target on a consistent basis for more than 10 years.
There is an interesting academic question of how much more the US economy can grow before an inflation problem emerges. My view is that it could probably grow quite a bit, but any honest person has to admit there's a lot of uncertainty here. The clearer issue is that there's little risk in trying to find out and considerable benefit to keeping rates as low as possible for as long as possible.
Bold central banking is a boon to the marginalized
At a recent congressional hearing, Fed Chair Janet Yellen was asked about the black-white unemployment gap and said basically that there's nothing she can do about it. If you delve into the data, it's easy enough to see what she means — the African-American unemployment rate and the white unemployment rate move in tandem, at a 2-to-1 ratio that seems to be fixed by factors that are out of the control of monetary policy.
But as Jared Bernstein points out, this semi-fixed ratio actually means that monetary policy matters a great deal for the racial gap. If white unemployment goes from 10 percent to 5 percent, the Fed has achieved a 5 percentage point reduction. At the same time, we would expect black unemployment to fall from 20 percent to 10 percent — a much larger 10 percentage point reduction.
With the United States currently enjoying a lowish 5.5 percent unemployment rate, it's easy for relatively privileged people to neglect the benefits of further small reductions. But for an African-American population that will enjoy a double-scale version of any drop in the unemployment rate, the stakes remain quite high.
The same is true of other kinds of vulnerable populations. The college-educated cohort that dominates discussion of economic policy already has a very low unemployment rate. But working-class Americans could see considerable benefit from a stronger labor market.
A real return to normal
What the Fed needs to do is redefine its conception of normalizing policy. Normal monetary policy is pretty simple — higher interest rates when needed to fight inflation, but not otherwise.
That's what normal monetary policy looks like. It's true that slowing population growth, aging, higher levels of foreign savings, and other factors seem to be systematically pushing interest rates to a level below what's historically normal. But it's also true that the US population is older and slower-growing than what's historically normal, which is true of other wealthy countries as well. Things change over time. What shouldn't change is the basic philosophy that tighter money is a solution to a specific problem — economic overheating — not a goal to be pursued at the soonest possible moment.