Macro Insight: One-Way Ben
The history books might call him “One-Way Ben.” After finishing off his predecessor’s tightening cycle in the early months of 2006, Ben Bernanke shifted into easing mode even before the global financial crisis erupted and then became the first chief of the US central bank to slash the federal funds rate all the way to zero. The Fed now says rates will stay there until unemployment drops below 6.5%, which they don’t expect to happen until Bernanke is long gone.
Most central banks have a mandate to keep inflation low and many have adopted a specific inflation target. Under Ben Bernanke, the US central bank set a target of 2.0% in early 2012 and had committed to keep rates low into 2015, provided inflation also remained muted.
Unlike many central banks, however, the Fed has an additional mandate to keep unemployment low as well, currently running at 7.7% (the blue line in the chart). In a major policy shift at their last meeting, the Fed set a hard target for unemployment of 6.5% (the dashed line). For investors, the change from the calendar to the economic data now means that the best single indicator of Fed policy is the labor market, as measured by the unemployment rate.
The Fed’s singular focus on the unemployment rate might be misplaced. The job openings rate, an alternative measure of the health of the labor market, just returned to its cycle high (the red line in the chart, inverted on the right axis). Whereas the unemployment rate comes from a survey of households and simply measures how many people say they are out of work but looking, the job openings rate comes directly from businesses who report how many jobs they have available. Because of the added time needed to crunch the numbers, it comes out a month later. It also has a shorter history.
In earlier years, the current job opening rate of 2.7% would translate into an unemployment rate of around 6.0%, well below its current level and also below the Fed’s new threshold for monetary tightening. Insights explored the break in the relationship in July 2010 and economists still debate whether the shift reflects a skills shortage (unemployed people lack the experience businesses need) or simply a reluctance of businesses to fill the job openings they have (because of their cautious economic outlook, for instance). While both indicators show a similar pace of recovery, the gap has held constant.
If it turns out that businesses are providing a better measure of the labor market than the household surveys, the Fed risks misreading the health of the economy and might need to raise rates at a faster clip down the road. In the meantime, the ongoing flow of easy money could be like adrenaline for an otherwise reasonably healthy economy … and like steroids for the stock market.
Ben Bernanke has said he plans to step down when his current term comes to an end in January 2014, well before the Fed forecasts the unemployment rate to be low enough for rates to rise. While it is too early to know who will be the new chair, one thing is for certain. With US interest rates at zero thanks to One-Way Ben, his successor will have only one way to go: up.