Is Bed Already Made for Fed on Inflation and Unemployment?

The Federal Reserve Building in Washington, D.C. (Larry Downing/Reuters

Today’s jobs report was underwhelming again, which is bad for the president. He doesn’t really have much to do with how many jobs are created or destroyed in a given month, but it’s customary in our political culture to credit and blame him accordingly, so, “Boo, Biden!”

Despite the economy’s adding far fewer jobs than expected in September, the unemployment rate still fell, from 5.2 percent to 4.8 percent. A comparison to other recessions past, the COVID recession saw a very rapid rise in the unemployment rate. The National Bureau of Economic Research states that the COVID recession is over as of April 2020. It wasn’t until January of 2016 that unemployment was at 4.8 percent after the Great Recession, which ended in June 2009. After the dotcom bubble burst, there was a milder recession. It ended in November 2001. Unemployment didn’t get to 4.8 percent again until January 2006.

There’s nothing magical about 4.8 percent; it just happens to be the number this month. The fact is, the U.S. has seen the greatest increase in the number of unemployed people in its history followed by the fastest declines. It is quite solid that 4.8 percent. The unemployment rate was above 4.8 percent every month of the 1980s, even during the extremely prosperous late ’80s.

That’s not to say the labor market is doing great. The labor-participation rate is down compared with the pre-pandemic rate, the number of long-term unemployed is 1.6 million higher than it was in February 2020, and 4.5 million Americans are working part-time because they can’t find full-time work or their hours got cut, the jobs report says.

From the Federal Reserve’s point of view, however, those are not primary concerns. The Fed’s dual mandate is to maintain low unemployment and low, stable inflation. These are all good outcomes in the long term, and are achievable. There is however a compromise between unemployment and inflation in the short-term.

The best example of this tradeoff was in the early ’80s. Paul Volcker, Fed Chairman, took control of the economy in 1979. It was high-inflation. To get that under control, he adopted a contractionary monetary policy, which caused a recession in the early ’80s and a spike in unemployment. In hindsight it turned out to be the best decision. It was worth temporarily experiencing higher unemployment to achieve double-digit inflation over the long term.

Recent reports have shown that inflation is back in the news after being managed well for many years. The Fed believes the past few months of higher inflation are transitory, and it hasn’t altered its expansionary monetary policy in response to the inflation reports. It’s not that the Fed doesn’t know how to control inflation or is failing to do so. It isn’t trying to because it doesn’t believe the past few months are going to turn into a long-term trend.

The other half of its dual mandate, low unemployment, is looking great from the Fed’s point of view. If inflation is transitory and we’re back down around 2.5 percent pretty soon, the Fed’s policy will have been really smart, and the country will be back to low unemployment and low, stable inflation.

However, if inflation does not become permanent and unemployment continues to fall, the Fed might find itself in trouble. In order to restore inflation to its normal levels, it may have to shorten the money supply to reverse positive unemployment figures. In other words, inflation had better be transitory because the bed might already be made — and we’ll have to lie in it.

Dominic Pino, a William F. Buckley Fellow for Political Journalism at National Review Institute.

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