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Bernanke Seen Not Knowing Jobless Rate Less Than Fed Predictions

Monday, March 19, 2012

David Waldrop, 59, says he considers himself retired after searching unsuccessfully for work comparable to the job he lost in July 2007 at the U.S. Department of Energy in Atlanta.

“There was certainly nothing in my area at my level,” he said. While the right opening might pull him back to employment, for now he sees his exit from the U.S. labor force as permanent. “I don’t see it happening,” he said. “I don’t see anything offering opportunities.”

Waldrop is one of millions who have dropped out of the labor market in the aftermath of the deepest recession since the Great Depression, causing the employment-to-population ratio to fall to 58.6 percent from 62.7 percent at the end of 2007. Federal Reserve Chairman Ben S. Bernanke says the decline reflects weakness in the economy that’s causing discouraged Americans to leave the workforce, bolstering his decision to add to his record monetary stimulus in January.

Economists at Barclays Capital, UBS AG and Moody’s Corp. disagree. They say the percentage of people aged 16 and older with jobs is shrinking permanently because of a structural shift as Baby Boomers like Waldrop retire. This will contribute to the jobless rate falling to 7.8 percent by December, below the Fed’s prediction of 8.2 percent to 8.5 percent, according to Drew Matus, senior U.S. economist at UBS and Dean Maki, chief U.S. economist at Barclays.

Tighten Sooner

That may force Bernanke and his colleagues to tighten monetary policy sooner than their plan to keep the benchmark federal funds rate near zero until at least late 2014, or risk a surge in inflation, Matus and Maki predict. The policy-setting Federal Open Market Committee said after its March 13 meeting that “elevated” joblessness will “decline gradually,” in support of its rate pledge.

“Unemployment will come down faster, and the participation rate will be lower -- that is what they have been missing,” Matus said in a telephone interview from his Stamford, Connecticut, office. “Every month that goes by, and the labor market performs differently than they expect, they are going to have to ask themselves: Are they using the right models?”

Joblessness was 8.3 percent in February, the lowest in three years, after the most robust six-month period of employment growth since 2006. It had risen as high as 10 percent in October 2009. The Fed lowered its forecast in January, after predicting in November that unemployment would be 8.5 percent to 8.7 percent at the end of this year.

Natural Rate of Unemployment

The cause of lower participation is a key component in determining the so-called natural rate of unemployment, or the level that neither accelerates nor decelerates inflation. The Fed in January projected a “longer-run” jobless rate of 5.2 percent to 6 percent.

“If the goal became to restore the employment-to- population ratio to where it was prior to the recession, we’d need an unemployment rate of about 3 percent, and that would clearly lead to monetary policy being too easy for too long,” said Maki, who is based in New York. “We think this is a factor contributing to medium-term inflation risks.”

Inflation expectations have climbed this year, bond prices show. The break-even rate for five-year Treasury Inflation Protected Securities, the yield difference between the inflation-linked debt and comparable maturity Treasuries, was 2.16 percentage points on March 16. The rate, a measure of the outlook for consumer prices over the life of the securities, has climbed from 1.53 points on Dec. 16.

Slack ‘Remains Substantial’

Federal Reserve Bank of New York President William C. Dudley said Jan. 27 that “the amount of slack in the economy remains substantial,” and he pointed to the declining participation rate as support for his view that labor-market gains are exaggerated. Job growth was “rather tepid” from September through December, even as the unemployment rate fell 0.5 percentage point, reflecting an “outright decline” in the workforce, he said.

“Workers aged 25 to 54 have been particularly prone to dropping out, which suggests that the decline in the unemployment rate may overstate the improvement in labor-market conditions,” Dudley said.

The participation rate among this group -- in their prime working years -- decreased to 81.6 percent in February from 83.4 percent in January 2007.

“It is very important to look not just at the unemployment rate,” Bernanke said in response to questions during a Senate Budget Committee hearing in Washington last month. “The 8.3 percent no doubt understates the weakness of the labor market in some broad sense.” Some people are leaving the workforce because they can’t find jobs, and others are taking part-time jobs because they can’t find full-time employment, he said.

Modest Recovery Pace

Charles Lieberman, chief investment officer at Advisors Capital Management LLC, said he supports Bernanke’s view, particularly given the modest pace of the recovery. The U.S. economy will grow 2.2 percent this year, according to the median response among 70 economists surveyed by Bloomberg News from March 9 to March 13. The U.S. expanded 1.7 percent in 2011.

“The unemployment rate has dropped more than would be expected, given the slow growth,” said Lieberman, former head of monetary analysis at the New York Fed and now in Hasbrouck Heights, New Jersey. “The pace of decline in unemployment will slow while the inflow back into the labor market is absorbed, unless growth accelerates significantly.”

While Bernanke argues that the falling participation rate reflects these cyclical changes, Fed researchers predicted in a 2006 study that the measure would decline because of structural shifts to the economy from the retirement of the generation born between 1946 and 1964.

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