To the surprise of no one, the Federal Reserve
recently raised
the federal funds rate — the interest rate under its direct control —
from 0–0.25 percent to 0.25–0.5 percent, ending seven years of a federal
funds rate of zero.
But while widely anticipated, the decision still clashes with the
Fed’s supposed mandate to maintain full employment and price stability.
Inflation remains well shy of the Fed’s 2 percent benchmark (its
interpretation of its legal mandate to promote “price stability”) — 1.4
percent in 2015, according to the Fed’s preferred personal consumption
expenditure measure, and a mere 0.4 percent using the consumer price
index — and shows no sign of rising.
US GDP remains roughly 10 percent below the pre-2008 trend, so it’s
hard to argue that the economy is approaching any kind of supply
constraints. And setting aside the
incoherent notion
of “price stability” (let alone of a single metric to measure it),
according to the Fed’s professed rulebook, the case for a rate increase
is no stronger today than a year or two ago. Even the business press,
for the most part, fails to see the logic for raising rates now.
Yet from another perspective, the decision to raise the federal funds
rate makes perfect sense. While the consensus view considers the main
job of central banks to be maintaining price stability by adjusting the
short-term interest rate, this has never been the whole story. (Lower
interest rates are supposed to raise private spending when inflation
falls short of the central bank’s target, and higher interest rates are
supposed to restrain spending when inflation rises above the target.)
More importantly, the central bank helps paper over the gap between
ideals and reality — the distance between the ideological vision of the
economy as a system of market exchanges of real goods, and the concrete
reality of production in pursuit of money profits.
Central banks are thus, in contemporary societies, one of the main sites at which capitalism’s “
Polanyi problem”
is managed: a society that truly subjected itself to the logic of
market exchange would tear itself to pieces. But the conscious planning
that confines market outcomes within tolerable bounds has to be hidden
from view because if the role of planning was acknowledged, it would
undermine the idea of markets as natural and spontaneous and demonstrate
the possibility of conscious planning toward other ends.
The Fed is a
central planner that dare not speak its name.
One particular problem for central bank planners is managing the pace
of growth for the system as a whole. Fast growth doesn’t just lead to
rising prices — left to their own devices, individual capitalists are
liable to bid up the price of labor and drain the reserve army of the
unemployed during boom times. Making concessions to workers when demand
is strong is rational for individual business owners, but undermines
their position as a class.
Solving this coordination problem is one of modern central
bankers’ central duties. They pay close attention to the somewhat
misleadingly labeled labor market, and use low unemployment as a signal
to raise interest rates.
So in this respect it isn’t surprising to see the Fed raising rates,
given that unemployment rates have now fallen below 5 percent for the
first time since the financial crisis.
Indeed, inflation targeting has always been coupled with a strong
commitment to restraining the claims of workers. Paul Volcker is now
widely admired
as the hero who slew the inflation dragon, but as Fed chair in the
1980s, he considered rolling back the power of organized labor — in
terms of both working conditions and wages — to be his number one
problem. Volcker described Reagan’s breaking of the air-traffic
controllers union as “the single most important action of the
administration in helping the anti-inflation fight.”
As one of Volcker’s colleagues argued, the fundamental goal of high rates was that
labor begins to get the point that if they get too much
in wages they won’t have a business to work for. I think that really is
beginning to happen now and that’s why I’m more optimistic. . . . When
Pan Am workers are willing to take 10 percent wage cuts because the
airlines are in trouble, I think those are signs that we’re at the point
where something can really start to happen.
Volcker’s successors at the Fed approached the inflation problem
similarly. Alan Greenspan saw the fight against rising prices as, at its
essence, a project of promoting weakness and insecurity among workers;
he
famously claimed
that “traumatized workers” were the reason strong growth with low
inflation was possible in the 1990s, unlike in previous decades.
Testifying before Congress in 1997, Greenspan attributed the
“extraordinary’” and “exceptional” performance of the nineties economy
to “a heightened sense of job insecurity” among workers “and, as a
consequence, subdued wages.”
As Greenspan’s colleague at the Fed in the 1990s, Janet Yellen
took the same view.
In a 1996 Federal Open Market Committee meeting, she said her biggest
worry was that “firms eventually will be forced to bid up wages to
retain workers.” But, she continued, she was not too concerned at the
moment because
while the labor market is tight, job insecurity also
seems alive and well. Real wage aspirations appear modest, and the
bargaining power of workers is surprisingly low . . . senior workers and
particularly those who have earned wage premia in the past, whether it
is due to the power of their unions or the generous compensation
policies of their employers, seem to be struggling to defend their jobs
. . . auto workers are focused on securing their own benefits during
their lifetimes but appear reconciled to accepting two-tier wage
structures . . .
And when a few high-profile union victories, like the Teamsters’
successful 1997 strike at UPS, seemed to indicate organized labor might
be reviving, Greenspan made no effort to hide his displeasure:
I suspect we will find that the [UPS] strike has done a
good deal of damage in the past couple of weeks. The settlement may go a
long way toward undermining the wage flexibility that we started to get
in labor markets with the air traffic controllers’ strike back in the
early 1980s. Even before this strike, it appeared that the secular
decline in real wages was over.
The Fed’s commitment to keeping unemployment high enough to limit
wage gains is hardly a secret — it’s right there in the transcripts of
FOMC meetings, and familiar to anyone who has read left critics of the
Fed like William Greider and
Doug Henwood. The bluntness with which Fed officials take sides in the class war is still striking, though.
Of course, Fed officials deny they’re taking sides. They justify
policies that keep workers too weak, disorganized, and traumatized to
demand higher wages by focusing on the purported dangers of low
unemployment. Lower unemployment, they say, leads to higher money wages,
and higher money wages are passed on as higher prices, ultimately
leaving workers’ real pay unchanged while eroding their savings.
So while it might look like naked class warfare to deliberately raise
unemployment to keep wage demands “subdued” (in the soothing language
of the Fed’s public statements), the Fed assures us that it’s really in
the best interests of everyone, including workers.
Keeping Wages in Check
The
low-unemployment-equals-high-prices story has always been problematic.
But for years its naysayers were silenced by the supposed empirical fact
of the Phillips curve, which links low unemployment to higher
inflation.
The shaky empirical basis of the Phillips curve was the source of
major macroeconomic debates in the 1970s, when monetarists claimed that
any departure from unemployment’s “natural” rate would lead inflation to
rise, or fall, without limit. This “vertical Phillips curve” was used
to deny the possibility of any tradeoff between unemployment and
inflation — a tradeoff that, in the postwar era, was supposed to be
managed by a technocratic state balancing the interests of wage earners
against the interest of money owners.
In the monetarist view, there were no conflicting interests to
balance, since there was just one possible rate of unemployment
compatible with a stable price system (the “Non Accelerating Inflation
Rate of Unemployment”). This is still the view one finds in most
textbooks today.
In retrospect, the seventies debates were a decisive blow against the
“bastard Keynesian” orthodoxy of the 1960s and 1970s. They were also an
important factor in the victory of monetarism and rational expectations
in the economics profession, and in the defeat of fiscal policy in the
policy realm.
But today there’s been another breakdown in the relationship between
unemployment and inflation that threatens to dislodge orthodoxy once
again. Rather than a vertical curve, we now seem to face a “horizontal”
Phillips curve in which changes in unemployment have no consequences for
inflation one way or another.
Despite breathless claims about the end of work there hasn’t been any
change in the link between output and employment, and low unemployment
is still associated with faster wage growth. But the link between wage
growth and inflation appears to have disappeared.
Annual wage growth for nonsupervisory workers (X) and CPI inflation (Y), 1965–1995.
Annual wage growth for nonsupervisory workers (X) and CPI inflation (Y), 1995–2015.
This gap in the output-unemployment-wages-inflation causal chain creates a significant problem for central bank ideology.
When Volcker breathlessly waited for news on the latest Teamsters
negotiations, it was ostensibly because of the future implications for
inflation. Now, if there is no longer any visible link between wage
growth and inflation, then central bankers might stop worrying so much
about labor market outcomes. Put differently, if the Fed’s goal
was truly price stability, then the degree to which workers are
traumatized would no longer matter so much.
But that’s not the only possibility. Central bankers might want to
maintain their focus on unemployment and wages as immediate targets of
policy for other reasons. In that case they’d need to change their
story.
The current tightening suggests that this is exactly what’s
happening. Targeting “wage inflation” seems to be becoming a policy goal
in itself, regardless of whether it spurs price increases.
A
recent piece by Justin Wolfers in the
New York Times
is a nice example of where conventional wisdom is heading: “It is only
when nominal wage growth exceeds the sum of inflation (about 2 percent)
and productivity growth (about 1.5 percent) that the Fed needs to be
concerned. . .”
This sounds like technical jargon, but if taken seriously it suggests a fundamental shift in the objectives of monetary policy.
By definition, the change in the wage share of output is equal to the
rise in money wages minus the sum of the inflation rate and the
increase in labor productivity. To say “nominal wage growth is greater
than the sum of inflation and productivity growth” is just a roundabout
way of saying “the wage share is rising.” So in plain English, Wolfers
is saying that the Fed should raise rates if and only if the share of
GDP going to workers threatens to increase.
Think for a moment about this logic. In the textbook story, wage
growth is a problem insofar as it’s associated with rising inflation.
But in the new version, wage growth is more likely to be a problem when
inflation stays low.
Wolfers is the farthest thing from a conservative ideologue. His
declaration that the Fed needs to guard against a rise in the wage share
is simply an expression of conventional elite wisdom that comes
straight from the Fed. A
recent post
by several economists at the New York Fed uses an identical definition
of “overheating” as wage growth in excess of productivity growth plus
inflation.
Focusing on wage growth itself, rather than the
unemployment-inflation nexus, represents a subtle but far-reaching shift
in the aim of policy. According to official rhetoric, an
inflation-targeting central bank should only be interested in the part
of wage changes that co-varies with inflation. Otherwise changes in the
wage share presumably reflect social or technological factors rather
than demand conditions that are not the responsibility of the central
bank.
To be fair, linking demand conditions to changes in the distribution between profits and wages, rather than to inflation, is a
more realistic view than the old orthodoxy that greater bargaining power for workers cannot increase their share of the product.
But it sits awkwardly with the central bank story that higher
unemployment is necessary to keep down prices. And it undermines the
broader commitment in orthodox economics to a sharp distinction — both
theoretically and policy-wise — between a monetary, demand-determined
short run and a technology and “real”-resources-determined long run,
with distributional questions firmly located in the latter.
There’s a funny disconnect in these conversations. A rising wage
share supposedly indicates an overheating economy — a macroeconomic
problem that requires a central bank response. But a falling wage share
is the result of deep structural forces — unrelated to aggregate demand
and certainly
not something with which the central bank should be concerned.
An increasing wage share is viewed by elites as a sign that policy is
too loose, but no one ever blames a declining wage share on policy that
is too tight. Instead we’re told it’s the result of technological
change, Chinese competition, etc. Logically, central bankers shouldn’t
be able to have it both ways. In practice they can and do.
The European Central Bank (ECB) — not surprisingly, given its more
overtly political role — has gone further down this road than the Fed.
Their standard for macroeconomic balance appears to be shifting from the
NAIRU (Non-Accelerating Inflation Rate of Unemployment) to the
NAWRU (Non-Accelerating Wage Rate of Unemployment).
If the goal all along has been lower wage growth, then this is not
surprising: when the link between wages and inflation weakens, the
response is not to find other tools for controlling inflation, but other
arguments for controlling wages.
Indeed finding fresh arguments for keeping wages in check may be the
real content of much of the “competitiveness” discourse. Replacing price
stability with elevating competitiveness as the paramount policy goal
creates a convenient justification for pushing down wages even when
inflation is already extremely low.
It’s interesting in this context to look back at the
ransom note
the ECB sent to the Spanish government during the 2011 sovereign debt
crisis. (Similar letters were sent to the governments of other
crisis-hit countries.) One of the top demands the ECB made as a
condition of stabilizing the market for government debt was the
abolition of cost-of-living (COLA) clauses in employment contracts —
even if adopted voluntarily by private employers.
Needless to say this is far beyond the mandate of a central bank as
normally understood. But the most interesting thing is the
rationale for ending COLA clauses. The ECB declared that cost-of-living
clauses are “a structural obstacle to the adjustment of labour costs”
and “contribute to hampering competitiveness.”
This is worth unpacking. For a central bank concerned with price
stability, the obvious problem with indexing wages to prices (as COLA
clauses do) is that it can lead to inflationary spirals, a situation in
which wages and prices rise together and real wages remain the same.
But this kind of textbook concern is not the ECB’s focus; instead,
the emphasis on labor costs shows an abiding interest in tamping down
real wages. In the old central bank story, wage indexing was supposedly
bad because it didn’t affect (i.e., raise) real wages and only led to
higher inflation. In the new dispensation, wage indexing is bad
precisely because it does affect real wages. The ECB’s language only
makes sense if the goal is to allow inflation to erode real wages.
The Republic of the Central Banker
Does the official story matter? Perhaps not.
The period before the 2008 crisis was characterized by a series of fulsome tributes to the wisdom of central banking
maestros, whose smug and uncritical tone must be causing some embarrassment in hindsight.
Liberals in particular seemed happy to declare themselves citizens of the
republic of the central bankers. Cristina Romer — soon to head President Obama’s Council of Economic Advisers —
described the defeat of postwar Keynesian macroeconomics as a “glorious counterrevolution” and explained that
better policy, particularly on the part of the Federal
Reserve, is directly responsible for the low inflation and the virtual
disappearance of the business cycle . . . The story of stabilization
policy of the last quarter century is one of amazing success. We have
seen the triumph of sensible ideas and have reaped the rewards in terms
of macroeconomic performance. The costly wrong turn in ideas and
macropolicy of the 1960s and 1970s has been righted and the future of
stabilization looks bright.
The date on which the “disappearance of the business cycle” was
announced? September 2007, two months before the start of the deepest
recession in fifty years.
Romer’s predecessor on Clinton’s Council of Economic Advisers (and
later Fed vice-chair) Alan Blinder was so impressed by the
philosopher-kings at the central bank that he
proposed extending the same model to a range of decisions currently made by elected legislatures.
We have drawn the line in the wrong place, leaving too
many policy decisions in the realm of politics and too few in the realm
of technocracy. . . . [T]he argument for the Fed’s independence applies
just as forcefully to many other areas of government policy. Many policy
decisions require complex technical judgments and have consequences
that stretch into the distant future. . . . Yet in such cases, elected
politicians make the key decisions. Why should monetary policy be
different? . . . The justification for central bank independence is
valid. Perhaps the model should be extended . . . The tax system would
surely be simpler, fairer, and more efficient if . . . left to an
independent technical body like the Federal Reserve rather than to
congressional committees.
The misguided consensus a decade ago about central banks’ ability to
preserve growth may be just as wrong about central banks’ ability to
derail it today. (Or at least, to do so with the conventional tools of
monetary policy, as opposed to the more aggressive iatrogenic techniques
of the ECB.)
The business press may obsess over every movement of the Fed’s
steering wheel, but we should allow ourselves some doubts that the
steering wheel is even connected to the wheels.
The last time the Fed tightened was ten years ago; between June 2004
and July 2006, the federal funds rate rose from 1 percent to 5 percent.
Yet longer-term interest rates — which matter much more for economic
activity —
did not rise at all.
The Baa corporate bond rate and thirty-year mortgage, for instance,
were both lower in late 2006 than they had been before the Fed started
tightening.
And among heterodox macroeconomists, there is a
strong argument
that conventional monetary policy no longer plays an important role in
the financial markets where longer-term interest rates are set. Which
means it has at best limited sway over the level of private spending.
And the largest impacts of the rate increase may not be in the US at
all, but in the “emerging markets” that may be faced with a reversal of
capital flows back toward the United States.
Yet whatever the concrete effects of the Fed’s decision to tighten,
it still offers some useful insight into the minds of our rulers.
We sometimes assume that the capitalist class wants growth at any
cost, and that the capitalist state acts to promote it. But while
individual capitalists are driven by competition to accumulate
endlessly, that pressure doesn’t apply to the class as a whole.
A regime of sustained zero growth, by conventional measures, might be
difficult to manage. But in the absence of acute threats to social
stability or external competition (as from the USSR during the postwar
“Golden Age”), slow growth may well be preferable to fast growth, which
after all empowers workers and destabilizes existing hierarchies. In
China, 10 percent annual growth may be essential to the social contract,
but slow growth does not — yet — seem to threaten the legitimacy of the
state in Europe, North America, or Japan.
As Sam Gindin and Leo Panitch
persuasively argue, even periodic crises are useful in maintaining the rule of money. They are
serve as reminders that the confidence of capital owners cannot be taken for granted. As Kalecki
famously argued,
the threat of a crisis when “business confidence” is shaken is a
“powerful controlling device” for capitalists vis-à-vis the state. Too
much success controlling crises is dangerous — it makes this threat less
threatening.
So perhaps the most important thing about the Fed’s recent rate hike
is that it’s a reminder that price stability and inflation management
are always a pretext, or at best just one reason among others, for the
managers of the capitalist state to control rapid growth and the
potential gains for workers that follow. As the shifting justifications
for restraining wage growth suggest, the republic of the central banker
has always been run in the interests of money owners.
Some critics of the rate hike see it as a ploy to raise the profits of banks. But this theory
isn’t convincing.
A better conspiracy theory is that it’s part of the larger project of
keeping us all insecure and dependent on the goodwill of the owning
class.
