US employment is almost back to pre-pandemic levels in the US after 390,000 people were hired in May.
Some people will call this bad news: The Fed won’t be able to reign in inflation with modest hikes if the economy is humming along. Instead, it will have to cause a massive recession, the kind of thing former US treasury secretary Larry Summers has warned about because the Fed’s interest rate hikes came too late to prevent the dreaded wage-price spiral.
But take off your macroeconomist hat for a minute. Imagine telling someone who got a job last month that it would have been better had they not gotten that job. The fact they are now employed means the government is more likely to try to take that job away. It would be better for the economy had they stayed unemployed, at least until inflation goes down.
If this sounds insane, well, it’s the kind of logic that makes people look askance at economists. And there are reasons to believe it isn’t correct. As the Fed began raising interest rates to battle high inflation in April, chair Jay Powell argued that achieving price stability is possible without a severe recession because “the economy is very strong and is well positioned to handle tighter monetary policy.”
When Powell talks about the strength of the labor market, he notes, for example, that job listings far exceed the number of people looking for work. If the Fed’s efforts to lower demand in the economy are effective, we might see the number of vacancies go down, moderating wage growth and inflation without throwing people out of work. These jobs also represent income that will strengthen household balance sheets as the Fed’s hikes continue at least through 2022.
Boston University economist Arindrajit Dube argues that today’s labor market is a success story, and not clearly to blame for inflation. If you think unprecedented pandemic relief spending is the culprit, the spending is over. If you blame pandemic supply chain crunches, those are receding as well. If you blame rising energy prices on Russia’s invasion of Ukraine, that’s not on the US labor market either.
The key distinction is between jobs and wages—the tangible fear is that price increases from any source could launch a vicious cycle of reinforcing wage and price increases. But we just don’t see it. Wage growth has slowed in 2022. One common market indicator of inflation, comparing inflation-protected Treasury bonds that mature in five years against regular five-year Treasury bonds, has fallen steadily since April and shows investors expect 3% inflation in 2027. That’s still higher than the Fed would like, but it’s not consistent with a Fed-driven recession, either.
Indeed, with most economic indicators generally positive, the primary argument being advanced for a recession boils down to “it usually happens when the Fed hikes.” Powell and other economists have pointed out a history of soft landings, and of recessions that have nothing to do with the Fed’s rate-setting, citing seven mild outcomes in the last eleven times the central bank has increased interest rates.
It’s worth considering that Powell’s arguments are intended as much to bolster confidence as they are to predict future conditions: If businesses act like Elon Musk, who decided this week to cut headcount at Tesla because he had a bad feeling about the economy, then a recession is inevitable.
But we don’t need to turn good news into bad news.