Quick Hit Ellyn Fortino Tuesday July 21st, 2015, 1:32pm

Experts Urge Fed To Pursue 'Genuine Full Employment' Before Rate Hike

The Federal Reserve should pursue "genuine full employment" with "robust wage growth" before raising interest rates, experts from the Center for Popular Democracy and the Economic Policy Institute argue in a new report.

The report authors say the Fed, the central bank of the United States, can help reverse wage stagnation and narrow gender and racial wage gaps through its monetary policy.

Most Americans have faced wage stagnation over the last 35 years, despite there being a 64.9 percent growth in productivity during this time, according to the report. Wage growth also remained sluggish last month, with average hourly earnings increasing only 2 percent in June from one year ago.

A move by the Fed to slow the economy with an interest rate hike before "genuine full employment" is achieved will "hamper the ability of workers' wages to rise," the authors wrote.

"Because the vast majority of American workers have seen near-stagnant wages even as economy-wide productivity growth has constantly risen, there's ample space for wage gaps to close without anyone losing wages," said report co-author Josh Bivens, EPI's research and policy director. "The Fed has a powerful role in shaping labor market trends and raising wages. By pursuing full employment, it could help to close these wage gaps among workers."

In the report, the experts highlighted wage trends over recent decades among men and women as well as racial groups. Over the past 35 years, racial wage gaps between whites and Latinos or blacks have widened, the report says. During the same time period, disparities in median earnings between men and women did narrow by about 30 percent, but over a quarter of that progress was due to a decline of men's wages, according to the report.

For its part, the Fed has a "dual mandate" to keep prices stable and maximize employment. The Fed's current inflation target is 2 percent, and full employment is defined by the financial institution as a jobless rate between 5.0 percent to 5.2 percent. The nation's unemployment rate in June was 5.3 percent. 

At some point this year, the Fed could begin to raise short-term interest rates, which were cut to near zero percent during the Great Recession to support the economy.

The report authors argue that the Fed's full employment estimate is "too meek," adding that the financial institution "should experiment aggressively with letting the unemployment rate fall as low as possible before raising interest rates."

"[T]he Fed should allow much lower unemployment levels, so long as no accelerating inflation results," the report adds. "Substantial evidence supports pursuing this more tolerant approach to falling unemployment. The late 1990s saw much lower rates (4.0 percent for two full years in 1999 and 2000) without sparking accelerating price inflation."

According to the experts, annual wage growth should also be in the 3.5 percent to 4.5 percent range before the Fed considers an interest rate hike.

Here are the three key recommendations listed in the report:

The Federal Reserve should set a clear and ambitious target for wage growth, which will provide an important and straightforward guidepost on the path to maximum employment. Wage targeting can be fairly easily tailored to the Fed's price-inflation target and pegged to increases in productivity.

The Fed should maintain a patient, but watchful posture. The history of the past 35 years shows a generally steady downward trend in price inflation and that prematurely slowing the economy results in higher than desirable unemployment.

The Federal Reserve should not consider an interest-rate hike until indicators of full employment--particularly wage growth--have strengthened.

"Failure to aggressively target and achieve genuine full employment by keeping interest rates low and setting a clear and ambitious target for wage growth explains a large part of why wages continue to stagnate," said report co-author Connie Razza, CPD's director of strategic research. "There is increasing talk about raising interest rates, but it would be a terrible mistake for the Fed to do so. Raising interest rates too soon will slow an already sluggish economy and will disproportionately harm women and people of color."


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