ShouldCentral Banks Target Employment? On December 12, US Federal Reserve Chairman Ben Bernankeannounced that the Fed will keep interest rates at close to zero until theunemployment rate falls to 6.5%, provided inflation expectations remain subdued. While the Fed’s governing statutes, unlike those of the European Central Bank,explicitly include a mandate to support employment, the announcement marked thefirst time that the Fed tied its interest-rate policy to a numerical employmenttarget. It is a welcome breakthrough, and one that should be emulated by others – not least the ECB.
Central banks’ statutes differ in terms of the objectivesthat they set for monetary policy. All include price stability. Many add areference to general economic conditions, including growth and employment orfinancial stability. Some give the central bank the authority to set aninflation target unilaterally; others stipulate coordination with the government in settingthe target.
There is no recent example, however, of a major centralbank setting a numerical employment target. Thisshould change, as the size of the employment challenge facing the advancedeconomies becomes more apparent. Weak labor markets, low inflation, and debtoverhang suggest that a fundamental re-ordering of priorities is in order. InJapan, Shinzo Abe, the incoming prime minister, is signaling the same set ofconcerns, although he seems to be proposing a “minimum” inflation target forthe Bank of Japan, rather than a link to growth or employment.
The spread of global value-chains that integrate hundredsof millions of developing-country workers into the global economy, as well asnew labor-saving technologies, imply little chance of cost-push wage inflation.Likewise, the market for long-term bonds indicates extremely low inflationexpectations (of course, interest rates are higher in cases of perceivedsovereign default or re-denomination risk, such as in Southern Europe, but thathas nothing to do with inflation). Moreover, the deleveraging underway since the 2008 financial implosion could be easier if inflation were moderatelyhigher for a few years, a debate the International Monetary Fund encouraged a year ago.
Together with these considerations, policymakers shouldtake into account the tremendous human and economic costs of high unemployment,ranging from the millions of shattered lives,skills erosion, and disappearance of opportunities for an entire generation, tothe dead-weight loss of idle human resources. Is the failure to ensure thatmillions of young people acquire the skills required to participate in theeconomy not as great a liability for a society as a large stock of public debt?
Nowhere is this reordering of priorities more needed thanin the eurozone. Yet, strangely, it is the Fed, not the ECB, that has set anunemployment target. The US unemployment rate has declined to around 7.7% and thecurrent-account deficit is close to $500 billion, while eurozone unemployment is at a record high, near 12%, andthe current account shows a surplus approaching $100 billion.
If the ECB’s inflation target were 3%, rather than close tobut below 2%, and Germany, with the world’s largest current-account surplus,encouraged 6% wage growth and tolerated 4% inflation – implying modestreal-wage growth in excess of expected productivity gains – the eurozoneadjustment process would become less politically and economically costly.Indeed, the policy calculus in Northern Europe greatly underestimates theeconomic losses due to the disruptions imposed on the South by excessive austerityand wage deflation. The resulting high levels of youth unemployment, healthproblems, and idle production capacity also all have a substantial impact ondemand for imports from the North.
Contrary to conventional wisdom, the ECB’s legal mandatewould allow such a re-ordering of priorities, as, with reference to the ECB,the Treatyon the Functioning of the European Union states that “The primary (emphasisadded) objective of the European System of Central Banks…shall be to maintainprice stability,” and there is another part of the Treaty dealing with generaleurozone economic policies that emphasizes employment. This would seem not to preclude atemporary complementary employment objective for the ECB at a time ofexceptional challenge.
Moreover, the ECB has the authority to set theeurozone-wide inflation target, and could set it higher for two or three years,without any treaty violation. The real problem is the current politicalattitude in Germany. Somehow, the memory of hyperinflation in the early 1920’sseems scarier than that of massive unemploymentin the early 1930’s, although it was the latter that fueled the rise of Nazism. Maybe the upcoming German elections will allowprogressive forces to clarify what is at stakefor Germany and Europe – indeed, the entire world.
In a more global context, none of this is to dismiss thelonger-term dangers of inflation. In most countries, at most times, inflationshould be kept very low – and central banks should anchorinflation expectations with a stable long-term target, although the alternative of targetingnominal GDP deserves to be discussed.
Moreover, monetary policy cannot be a long-term substitutefor structural reforms and sustainable budgets. Long periods of zero realinterest rates carry the danger of asset bubbles, misallocationof resources, and unintended effects on income inequality, as recent history –not least in the US and Japan – demonstrates.
For the coming 2-3 years, however, particularly in Europe,the need for deleveraging, the costs of widespread joblessness, and the risk ofsocial collapse make the kind of temporary unemployment target announced by theFed highly desirable.