Powell can’t count on a labor market miracle

Federal Reserve Chair Jerome Powell’s dream of a miraculous and pain-free labor market disinflation just faced a surprise setback. Powell wants the number of job openings to decline to cool wage pressure, but a Labor Department report showed it’s starting to move in the wrong direction. Powell shouldn’t be betting the house on his scenario, and chances are that he will stop promoting it so enthusiastically.
Consider the latest developments, which helped send two-year Treasury yields to a 14-year high and exacerbated stock market declines. 1 Openings rose to 11.2 million in July, up from 11 million in June, the first increase in four months. Under the surface, the sources of the increase — government and lower-paying service jobs — weren’t exactly a sign of economic boom times, but the numbers were also not consistent with a cool-down of the hottest inflation in 40 years. Coupled with the upward revision in June job openings, the trend looks as if it’s flattening instead of plummeting, and there are still about two jobs for every unemployed person.
The data mark the latest chapter in a macroeconomic dogfight between Fed economists and outside researchers led by Olivier Blanchard, Alex Domash and Lawrence Summers, who have argued that Powell’s labor market miracle is too pie-in-the-sky. Beneath their public back-and-forth over the math, there’s a consequential question concerning the livelihoods of millions of Americans: Are layoffs a necessary trade-off in the fight against inflation?
Economists often assume that they are and that upward wage pressure comes from an unemployment rate that is too low. But this time around, the US started with an unprecedented number of job openings, and Powell has proposed reducing wage pressure by simply bringing that down. Everyone should obviously be rooting for that scenario, but there are clear risks in policy makers overplaying its likelihood.
The job openings data surprised a market that went in with a consensus economist forecast for vacancies to drop below 10.4 million, but it perhaps shouldn’t have been that shocking. For starters, the Conference Board’s Help Wanted OnLine Index comes out earlier and typically tracks the the Labor Department’s job openings data somewhat closely. Moreover, markets already had a taste of how tight the labor market was from the unexpectedly strong jump in nonfarm payrolls in July. Quits, another measure of labor market tightness, fell slightly to 4.2 million. The reaction to it all just goes to underscore the market’s sensitivity to anything with a whiff of inflationary pressure.
At this stage, the central bank needs to be honest with Americans about the costs of monetary policy. Powell started to do so in his speech on Friday in Jackson Hole, Wyoming, where he highlighted that higher interest rates will “bring some pain to households and businesses.” He should continue to do so by making clear that the ideal scenario isn’t his base case so that Americans can prepare for challenging times. Personal savings now account for just 5% of disposable income, the lowest since 2009, and credit card balances are rising sharply, signaling most Americans aren’t sufficiently bracing for the challenges ahead.
It’s also important to acknowledge the likelihood of economic pain because the Fed bears some responsibility for it. While inflation is a global phenomenon now, the Fed played it down in 2021 and got such a late start on its inflation fight that it must now execute an exceedingly perilous late-cycle tightening that could be more agonizing than it would have been otherwise.
—Bloomberg