Janet L Yellen: A painfully slow recovery for America's workers -
causes, implications and the Federal Reserve's response
Speech by Ms Janet L Yellen, Vice Chair of the Board of Governors of the Federal Reserve
System, at the "A Trans-Atlantic Agenda for Shared Prosperity" conference, Washington DC,
11 February 2013.
* * *
The views expressed here are my own and not necessarily those of my colleagues in the Federal Reserve
System. I am indebted to members of the Board staff - John Maggs, Karen Pence, Jeremy Rudd, and William
Wascher - who contributed to the preparation of these remarks, and to Board staff members Sejla Karalic and
Christopher Nekarda for assistance with the exhibits.
Thank you for the opportunity to speak to you today about the Federal Reserve's efforts to
strengthen the recovery and pursue a goal that it shares with the labor movement: maximum
employment.
As an objective of public policy, maximum employment doesn't appear in the U.S.
Constitution, in any presidential decree, or even in the mission statement of the Labor
Department. A law passed in 1946 made it a general goal for the U.S. government, but so far
the Federal Reserve is the only agency assigned the job of pursuing maximum employment.
The 1977 law spelling out that responsibility also assigned the goal of stable prices, and we
call this combination of objectives the Federal Reserve's dual mandate.1
With so many people today unable to find work, it might seem odd to highlight such an
ambitious and distant goal for employment. I do so because the gulf between maximum
employment and the very difficult conditions workers face today helps explain the urgency
behind the Federal Reserve's ongoing efforts to strengthen the recovery. My colleagues and
I are acutely aware of how much workers have lost in the past five years. In response, we
have taken, and are continuing to take, forceful action to increase the pace of economic
growth and job creation.
In the three years after the Great Recession ended, growth in real gross domestic product
(GDP) averaged only 2.2 percent per year. In the same span of time following the previous
10 U.S. recessions, real GDP grew, on average, more than twice as fast - at a 4.6 percent
annual rate.2 So, why has the economy's recovery from the Great Recession been so weak?
The slow recovery was preceded, of course, by the deepest recession since the end of the
Second World War. The bursting of an unprecedented housing bubble, together with the
financial crisis that followed, dealt a huge blow to demand. These developments robbed
homeowners of wealth built over a generation, impaired their access to credit, decimated
retirement savings, and shattered the confidence of consumers. Businesses slashed capital
spending and payrolls, and real GDP contracted by 4.7 percent, more than twice the average
for the 10 other recessions since World War II. The Great Recession was also the longest
postwar recession - it lasted 18 months, compared with an average of 10 months for the
others.
The experience of the United States and other advanced economies suggests that deeper
recessions are usually followed by stronger-than-average recoveries. While it's also true that
longer recessions tend to result in weaker recoveries, even after accounting for this factor,
this recovery has been significantly weaker than past experience would have predicted.
The dashed line in exhibit 1 shows how real GDP would have been expected to increase in
this recovery, based on the experience of the United States and other advanced economies
and given the depth and duration of the Great Recession.3 The gap between the actual and
the predicted path of real output gives a sense of how much economic performance has
lagged in this recovery. But the implications of this result may seem a little abstract, so let me
illustrate the same idea in a way that tries to show the burden that workers continue to bear
in this slow recovery.
Exhibit 2 shows how employment has declined and recovered following several previous
recessions. The employment measure attempts to control for the fact that demographic
changes and other factors have altered the trend, or potential, workforce over the years. For
example, in the 1970s, the pool of potential workers was expanding as baby boomers and an
increasing share of women moved into the labor force, such that employment needed to rise
relatively quickly just to absorb these additional workers. More recently, the aging of the
population has put downward pressure on labor force participation, so employment hasn't
had to grow as quickly to keep pace with the potential workforce.
Even after making this adjustment, however, the Great Recession stands out both for the
magnitude of the job losses that attended the downturn and for the weak recovery in
employment that occurred after the recession ended.
In trying to account for why this recovery has been so weak, it is helpful to first consider
several important factors that have in the past supported most economic recoveries. By this I
don't mean everything that contributes to economic growth, but rather those things that
typically play a key role when the U.S. economy is recovering from recession. Think of these
as the tailwinds that usually promote a recovery.
The first tailwind I'll mention is fiscal policy. History shows that fiscal policy often helps to
support an economic recovery. Some of this fiscal stimulus is automatic, and intended to be.
The income loss that individuals and businesses suffer in a recession is partly offset when
their tax bills fall as well. Government spending on unemployment benefits and other
safetynet programs rises in recessions, helping individuals hurt by the downturn and also
supporting consumer spending and the broader economy by replacing lost income. These
automatic declines in tax collections and increases in government spending are often
supplemented with discretionary fiscal action - tax rate cuts, spending on infrastructure and
other goods and services, and extended unemployment benefits. These discretionary fiscal
policy actions are typically a plus for growth in the years just after a recession. For example,
following the severe 1981-82 recession, discretionary fiscal policy contributed an average of
about 1 percentage point per year to real GDP growth over the subsequent three years.4
However, discretionary fiscal policy hasn't been much of a tailwind during this recovery. In
the year following the end of the recession, discretionary fiscal policy at the federal, state,
and local levels boosted growth at roughly the same pace as in past recoveries, as exhibit 3
indicates. But instead of contributing to growth thereafter, discretionary fiscal policy this time
has actually acted to restrain the recovery. State and local governments were cutting
spending and, in some cases, raising taxes for much of this period to deal with revenue
shortfalls. At the federal level, policymakers have reduced purchases of goods and services,
allowed stimulus-related spending to decline, and have put in place further policy actions to
reduce deficits. I was relieved that the Congress and the Administration were able to reach
agreement on avoiding the full force of the "fiscal cliff" that was due to take effect on January
1. While a long-term plan is needed to reduce deficits and slow the growth of federal debt,
the tax increases and spending cuts that would have occurred last month, absent action by
the Congress and the President, likely would have been a headwind strong enough to blow
the United States back into recession. Negotiations continue over the extent of spending cuts
now due to take effect beginning in March, and I expect that discretionary fiscal policy will
continue to be a headwind for the recovery for some time, instead of the tailwind it has been
in the past.
A second tailwind in most recoveries is housing. Residential investment creates jobs in
construction and related industries. Before the Great Recession, housing investment added
an average of 1/2 percentage point to real GDP growth in the two years after each of the
previous four recessions, considerably more than its contribution to growth at other times.5
During this recovery, in contrast, residential investment, on net, has contributed very little to
growth since the recession ended. The reasons are easy to understand, given the central
role that housing played in the Great Recession. Following an extended boom in construction
driven in large part by overly loose mortgage lending standards and unrealistic expectations
for future home price increases, the housing market collapsed - sales and prices plunged
and mortgage credit was sharply curtailed. Tight mortgage credit conditions are continuing to
make it difficult for many families to buy homes, despite record-low mortgage interest rates
that have helped make housing very affordable. I'm encouraged by recent improvement in
the residential sector, but the contribution of housing investment to overall economic activity
remains considerably below the average seen in past recoveries, as exhibit 4 shows.
Beyond the direct effects on residential investment, the extraordinary collapse in house
prices resulted in a huge loss of household wealth - at last count, net home equity is still
down 40 percent, or about $5 trillion, from 2005.6 This loss of wealth has weighed on the
finances and spending of many homeowners. Households are less able to tap their home
equity to deal with economic shocks, fund their children's education, or start new businesses.
For some households, the collapse in house prices has left them underwater on their
mortgages, and thus less able to refinance or sell their homes.
Another important tailwind in most economic recoveries is one that tends to be taken for
granted - the faith most of us have, based on history and personal experience, that
recessions are temporary and that the economy will soon get back to normal. Even during
recessions, households' expectations for income growth tend to be reasonably stable, which
provides support for overall spending. In the most recent recession, however, surveys
suggest that consumers sharply revised down their prospects for future income growth and
have only partially adjusted up their expectations since then (exhibit 5).
The recovery has also encountered some unusual headwinds. The fiscal and financial crisis
in Europe has resulted in a euro-area recession and contributed to slower global growth.
Europe's difficulties have blunted what had been strong growth in U.S. exports earlier in the
recovery by sapping demand worldwide.
Let me say a few words now, and more later, about the role of monetary policy in this
recovery. The Federal Reserve typically plays a large role in promoting recoveries by
reducing the federal funds rate and keeping it low until the economy is again on a solid
footing. Reducing the federal funds rate tends to reduce other interest rates and boost asset
prices, thus encouraging spending and investment throughout the economy.
As it has before, the Federal Open Market Committee (FOMC) in 2007 started reducing the
federal funds rate at the first signs of economic weakness and made sharper rate cuts as the
recession deepened. As in some past recoveries that were disappointingly slow, the FOMC
has kept rates low well after the end of the recession.
But unlike the past, by December 2008 the Committee had reduced the federal funds rate
effectively to zero. Because that rate, for practical purposes, cannot be cut further, this level
is referred to as the effective lower bound. Without the option of using its conventional policy
tool, and with the recession getting worse, the FOMC decided to employ unconventional
tools to further ease monetary policy, even though the efficacy of these tools was uncertain
and it was recognized that their use might carry some potential costs. The better known of
these tools is the purchase of large amounts of longer-term government securities, which is
commonly referred to as quantitative easing. The other unconventional tool is known as
forward guidance - providing information about the future path of short-term interest rates
anticipated by the Committee. Both of these approaches are intended to address a gap
caused by the effective lower bound. This gap is the shortfall between what the FOMC likely
do in current economic circumstances, were it able to reduce the federal funds rate
would
below zero, and the reality that the rate can't be cut further.
I believe that the Federal Reserve's asset purchases and other unconventional policy actions
have helped, and are continuing to help, fill this gap and thus shore up aggregate demand.
The evidence suggests that the FOMC's actions have lowered short- and longer-term private
borrowing rates and boosted asset prices.7 However, while this contribution has been
significant, lower interest rates may be doing less to increase spending than in past
recoveries because of some unusual features of the Great Recession and the current
recovery. For example, as I noted, the housing crisis left many homeowners with high
loanto-value ratios and damaged credit records, creating barriers to their access to credit, while
the financial crisis led many banks to lend only to borrowers with higher credit scores. As a
consequence, the proportion of households that have been able to take advantage of
declining rates to refinance their mortgages or to borrow to purchase new homes has
probably been lower than in past recoveries. In addition, pronounced uncertainty about
economic conditions has weighed on capital spending decisions and may have blunted the
normal effect of lower interest rates on business investment.
These are the major reasons why I believe this recovery has been so slow. After a lengthy
recession that imposed great hardships on American workers, the weak recovery has made
the past five years the toughest that many of today's workers have ever experienced.
The unemployment rate now stands at 7.9 percent. To put this number in perspective, while
that's a big improvement from the 10 percent reached in late 2009, it is now higher than
unemployment ever got in the 24 years before the Great Recession. Moreover, the
government's current estimate of 12 million unemployed doesn't include
800,000 discouraged workers who say they have given up looking for work. And, as exhibit 6
shows, 8 million people, or 5.6 percent of the workforce, say they are working part time even
though they would prefer a full-time job. A broader measure of underemployment that
includes these and other potential workers stands at 14.4 percent.
The effects of the recession and the subsequent slow recovery have been harshest on some
of the most vulnerable Americans. The poverty rate has risen sharply since the onset of the
recession, after a decade in which it had been relatively stable, and stands at 15 percent of
the population, significantly above the average of the past three decades.8 Even those today
who are fortunate enough to hold jobs have seen their hourly compensation barely keep
pace with the cost of living over the past three years, while labor's share of income - as
measured by the percent of production by nonfinancial corporations accruing to workers as
compensation - remains near the postwar low reached in 2011 (exhibit 7). Compared with
the 7.9 percent unemployment rate for all workers, the unemployment rate for African
Americans is 13.8 percent. The unemployment rate for those without a high school diploma
is 12 percent. For young people - workers 16 to 19 years old - the unemployment rate is
23.4 percent, little changed from the end of the recession. Among African Americans in that
age group, 38 percent of those in the labor force can't find a job.
Another gauge of the effect that this slow recovery has had on workers is how long it is
taking to find a job. At its worst point in the 1980s, the median length of unemployment for
those looking for a job was 12 weeks, but the median since the Great Recession has
20 weeks and now stands at 16 weeks. Three million Americans have been
averaged
looking for work for one year or more; that's one-fourth of all unemployed workers, which is
down from 2011's peak but far larger than was seen before the Great Recession.
These are not just statistics to me. We know that long-term unemployment is devastating to
workers and their families. Longer spells of unemployment raise the risk of homelessness
and have been a factor contributing to the foreclosure crisis. When you're unemployed for
six months or a year, it is hard to qualify for a lease, so even the option of relocating to find a
job is often off the table. The toll is simply terrible on the mental and physical health of
workers, on their marriages, and on their children.9
Long-term unemployment is also a great concern because it has the potential to itself
become a headwind restraining the economy. Individuals out of work for an extended period
can become less employable as they lose the specific skills acquired in their previous jobs
and also lose the habits needed to hold down any job. Those out of work for a long time also
tend to lose touch with former co-workers in their previous industry or occupation - contacts
that can often help an unemployed worker find a job. Long-term unemployment can make
any worker progressively less employable, even after the economy strengthens.
A factor contributing to the high level of long-term unemployment in the current recovery is
the relatively large proportion of workers who have permanently lost their previous jobs, as
opposed to being laid off temporarily. For example, in past recessions, a considerable share
of jobs lost in construction has been temporary, but that isn't the case this time. Construction
employment fell from its peak of 7.7 million in 2006 to a low of 5.4 million in 2011. Only about
300,000 of those 2.3 million jobs have returned and most won't, at least for many years.
In general, individuals who permanently lose their previous jobs take longer to become
reemployed than do those on temporary layoff, are more likely to have to change industries
or occupations to find a new job, and earn significantly less when they become reemployed.10
The greater amount of permanent job loss seen in the recent recession also suggests that
there might have been an increase in the degree of mismatch between the skills possessed
by the unemployed and those demanded by employers. This possibility and the
unprecedented level and persistence of long-term unemployment in this recovery have
prompted some to ask whether a significant share of unemployment since the recession is
due to structural problems in labor markets and not simply a cyclical shortfall in aggregate
demand. This question is important for anyone committed to the goal of maximum
employment, because it implicitly asks whether the best we can hope for, even in a healthy
economy, is an unemployment rate significantly higher than what has been achieved in the
past.
For the Federal Reserve, the answer to this question has important implications for monetary
policy. If the current, elevated rate of unemployment is largely cyclical, then the
straightforward solution is to take action to raise aggregate demand. If unemployment is
instead substantially structural, some worry that attempts to raise aggregate demand will
have little effect on unemployment and serve only to stoke inflation.
This question is frequently discussed by the FOMC.11 I cannot speak for the Committee or
my colleagues, some of whom have publicly related their own conclusions on this topic.
However, I see the evidence as consistent with the view that the increase in unemployment
since the onset of the Great Recession has been largely cyclical and not structural.
For example, the rise in unemployment during the recession was accompanied by a dramatic
decline in job vacancies and was widespread across industry and occupation groups. Job
losses in the construction and financial services industries were particularly large - hardly
surprising given the collapse in these sectors in 2008 and 2009 - but manufacturing and
other cyclically sensitive industries were hit hard as well, and employment in these industries
has likewise recovered slowly. Moreover, if skills mismatch in the labor market has led to an
excess supply of workers in some sectors and a shortage of workers in others, then we
would expect to see an atypical amount of variation in the balance between job openings and
unemployment across sectors. Based on this insight, researchers Ed Lazear and
Jim Spletzer constructed quantitative measures of mismatch across industries and
occupations.12 They found that their mismatch indexes were indeed elevated at the end of
the Great Recession, as exhibit 8 shows. But these measures have fallen over the course of
the recovery to near pre-recession levels. In addition, widespread mismatch between job
vacancies and workers across different sectors might be expected to cause wage rates to
rise relatively quickly in sectors with many job openings and relatively slowly in sectors with
an excess supply of available workers. But work by Jesse Rothstein fails to uncover
evidence of such a pattern.13
11
See, for example, the minutes of several recent FOMC meetings held on December 11-12, 2012;
September 12-13, 2012; and July 31-August 1, 2012: Board of Governors of the Federal Reserve System
(2013), "Minutes of the Federal Open Market Committee, December 11-12, 2012", press release, January 3,
www.federalreserve.gov/newsevents/press/monetary/20130103a.htm; Board of Governors of the Federal
Reserve System (2012), "Minutes of the Federal Open Market Committee, September 12-13, 2012", press
release, October 4, www.federalreserve.gov/newsevents/press/monetary/20121004a.htm; and Board of
Governors of the Federal Reserve System (2012), "Minutes of the Federal Open Market Committee,
July 31-August 1, 2012", press release, August 22, www.federalreserve.gov/newsevents/press/monetary/
20120822a.htm.
12
See Edward P. Lazear and James R. Spletzer (2012), "The United States Labor Market: Status Quo or a New
Normal?" NBER Working Paper Series 18386 (Cambridge, Mass.: National Bureau of Economic Research,
September). See also Ayșegül Șahin, Joseph Song, Giorgio Topa, and Giovanni L. Violante (2012),
"Mismatch Unemployment", NBER Working Paper Series 18265 (Cambridge, Mass.: National Bureau of
Economic Research, August).
13
See Jesse Rothstein (2012), "The Labor Market Four Years into the Crisis: Assessing Structural
Explanations", vol. 65 (July), pp. 467-500.
Industrial and Labor Relations Review,
This and related research suggests to me, first, that a broad-based cyclical shortage of
demand is the main cause of today's elevated unemployment rate, and, second, that
whatever problems there may be today with labor market functioning are likely to be
substantially resolved as the broader economy improves and bolsters the demand for labor.
I don't mean to suggest that there aren't some workers who have been stranded by structural
changes in the economy. More can and should be done to help dislocated workers acquire
new skills to transition from industries and occupations with fewer opportunities. But making
this transition will be much easier in a healthy economy, which is one reason why I am
encouraged by the evidence that elevated unemployment is indeed largely cyclical. I will now
describe what the Federal Reserve is doing to try to raise demand and create jobs.
I have described the two unconventional policy tools that the FOMC has employed since it
reduced the target federal funds rate in 2008 to its effective lower bound. The first is
largescale asset purchases, intended to lower long-term interest rates to encourage borrowing for
spending and investment. Between 2008 and mid-2011, the FOMC purchased
agencyguaranteed mortgage-backed securities (MBS), agency debt, and Treasury securities totaling
$2.3 trillion. In 2011, the FOMC began the maturity extension program, under which it
reduced its holdings of short-term Treasury securities and used the proceeds to purchase an
equivalent amount of longer-term Treasury securities.
However, as the scheduled endpoint of that program approached, it became clear that the
economy remained weak, and the FOMC took a series of steps to provide further impetus to
the recovery. In June 2012, the Committee extended its maturity extension program until the
end of the year. Then in September, it made a major new commitment to asset purchases.
Unlike its past purchase programs, which were fixed in size, this time the FOMC stated its
determination to continue the program, provided that inflation remains well contained, until it
judges that there has been a substantial improvement in the outlook for the labor market.
The Committee currently intends to purchase MBS and Treasury debt at a pace that will add
about $85 billion per month of such securities to the Federal Reserve's balance sheet. In
determining the size, pace, and composition of these purchases over time, the Committee
will also take into account ongoing assessments of their efficacy and costs.
The second unconventional policy tool that the FOMC has used is forward guidance, in the
form of more-explicit and more-detailed information about the future path of monetary policy.
The longer-term interest rates that most profoundly influence housing demand, capital
spending, and asset prices depend on current expected future levels of short-term
and
interest rates, such as the federal funds rate that has been the Fed's conventional monetary
policy tool. Signaling the future path of the federal funds rate can therefore directly affect
interest rates today on auto loans, home mortgages, and bonds issued by companies and
state and local governments, even when the current level of the federal funds rate cannot be
lowered.
The FOMC has substantially expanded its forward guidance in recent years. In 2009, the
Committee stated that economic conditions "are likely to warrant exceptionally low levels of
the federal funds rate for an extended period".14 In 2011, the FOMC said this period would
likely last "at least through mid-2013", and extended this date guidance several times.15
A disadvantage of this calendar-based approach was that it might not be clear whether
changes in the date reflect changes in the FOMC's outlook for growth, for inflation, or a shift
in the desired stance of policy. In December 2012, the FOMC therefore replaced the date
with greater detail on the economic conditions that would warrant maintaining the federal
funds rate at its present, exceptionally low level. Specifically, it stated that near-zero rates
would likely remain appropriate for a considerable time after the asset purchase program
ends and "at least as long as the unemployment rate remains above 6-1/2 percent, inflation
between one and two years ahead is projected to be no more than a half percentage point
above the Committee's 2 percent longer-run goal, and longer-term inflation expectations
continue to be well anchored".16
It deserves emphasis that a 6-1/2 percent unemployment rate and inflation one to two years
ahead that is 1/2 percentage point above the Committee's 2 percent objective are thresholds
for possible action, not triggers that will necessarily prompt an immediate increase in the
FOMC's target rate. In practical terms, it means that the Committee does not expect to raise
the federal funds rate as long as unemployment remains above 6-1/2 percent inflation
and
one to two years ahead is projected to be less than 1/2 percentage point above its 2 percent
objective. When one of these thresholds is crossed, action is possible but not assured.
Moreover, these thresholds for possible action do not reflect any change in the Committee's
longer-run goals. With respect to maximum employment, most FOMC participants continue
to estimate that the longer-run normal unemployment rate lies in a range of 5.2 to 6 percent,
and the Committee continues to believe an inflation rate of 2 percent (as measured by the
annual change in the price index for personal consumption expenditures) is most consistent
with the Federal Reserve's dual mandate. Indeed, the Committee reaffirmed these longer-run
goals, first adopted in January 2012, just last month.17 Of course, our control over the
economy is imperfect, and so temporary deviations from the FOMC's specific longer-term
goals will sometimes occur. Importantly, these quantitative goals are neither ceilings nor
floors for inflation and unemployment, and the Committee will take a balanced approach to
returning both measures to their objectives over time.
I believe the policy steps we have taken recently are in accord with this balanced approach.
With employment so far from its maximum level and with inflation currently running, and
expected to continue to run, at or below the Committee's 2 percent longer-term objective, it is
entirely appropriate for progress in attaining maximum employment to take center stage in
determining the Committee's policy stance.
While the Committee's longer-term goals remain unchanged, what changed is that the
has
FOMC is now providing more information about how it expects to pursue its inflation and
employment goals. In particular, we will employ our policy tools, as appropriate, to raise
aggregate demand and employment in the context of continued price stability, consistent with
our balanced approach. That's good news for workers, because I believe that these steps will
increase demand, and more demand means more jobs.
It will be a long road back to a healthy job market. It will be years before many workers feel
like they have regained the ground lost since 2007. Longer-term trends, such as globalization
and technological change, will continue to pose challenges to workers in many industries.
Let me close with some words of encouragement. The job market is improving. The progress
has been too slow, but there is progress. My colleagues and I at the Federal Reserve are
well aware of the difficulties faced by workers in this slow recovery, and we're actively
engaged in continuing efforts to promote a stronger economy, more jobs, and better
conditions for all workers.
Thank you for the opportunity to speak to you today.
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