The Fed’s rate hike is not surprising, but it is disappointing

The Federal Reserve’s announcement today that it would raise short-term interest rates is not surprising, but is disappointing. As always, the issue is less about the direct impact of today’s 0.25 percentage point hike, and more about what this hike means, especially given that it has come relatively hard on the heels of a hike in December. Today’s hike seems to signal that Fed policymakers think that we’re currently at or very near full employment, and that failing to slow the pace of economic growth in coming months would soon lead to accelerating wage and price inflation. They could be right, of course, but it is important to note that there is little in actual economic data to indicate this.

Even the headline unemployment rate (today’s healthiest economic indicator) remains significantly higher than what it reached in 1999 and 2000, when we saw 4.1 percent unemployment for a full two years without accelerating inflation. The share of adults between the ages of 25 and 54 with a job hasn’t even recovered to pre-Great Recession levels, which were, in turn, far below the peaks reached in the late 1990s. And, most importantly, no durable and significant acceleration of wage growth to healthy levels has happened yet. Finally, the Fed’s preferred price inflation indicator—year-over-year growth in “core” (excluding food and energy) prices for personal consumption expenditures— remains stubbornly below the Fed’s professed target and shows no upward trend at all.

The risks regarding the Fed’s interest rate decisions remain deeply asymmetric, and point strongly to erring on the side of continuing to prioritize further improvements in the labor market rather than forestalling possible future inflation, which would mean not raising rates. If the Fed is wrong and raises rates enough in coming months to keep unemployment from falling to the low 4s, this implies millions of potential workers who can’t find jobs or the hours they want, and likely implies tens of millions of workers who will receive lower wage increases than they otherwise could have had. This is especially important for low and middle-wage workers, who need low rates of unemployment before they have any serious chance to bargain for higher wages.

If instead those of us arguing for the Fed to be more aggressive and keep rates steady are wrong, the downside is a short period of above-target inflation. But given that inflation has been below target for literally years now, this is not even a danger to be feared; instead it would signal an economy healing itself.

The path that today’s rate hike puts us on is one on which rates are steadily raised in coming years, unemployment never reliably settles significantly lower than today, and the Fed’s price inflation target is solidified as a hard ceiling that they think should never be breached, rather than an average to guide long-run expectations. If today’s hikes foreshadow this intentional slowing of the economy, they could also contribute to locking-in the dismal productivity growth figures of recent years.
The failure of macroeconomic policymakers— including the Fed— to aggressively pursue the limits of maximum employment has been a prime reason why wage growth for low and middle-wage workers has been so anemic for most of the past generation of economic life. Any serious agenda that sees the benefits of American economic growth more equitably shared has to include a commitment to targeting genuine full employment as a priority economic policy. Today’s rate hike is very bad news regarding hopes about such a commitment to help working people.