Wages and Labor Market Slack: Making the Dual Mandate Operational (DRAFT)

David Blanchflower and Adam Posen

No PB14-10, Policy Briefs from Peterson Institute for International Economics

Abstract: The new chair of the Federal Reserve, Janet Yellen, contends that there is considerable slack in the labor market, and that the Fed is monitoring several measures of labor market conditions to assess that problem. This Policy Brief provides new analysis on one of these measures, the US labor force participation rate. It questions the view that much of the decline is structural in nature, attributable to demographic factors. Underemployment—the phenomenon of workers wanting to work more hours but who are unable to do so—has also kept wages down. The implication for Federal Reserve policy is that low labor participation provides an additional measure of labor market slack, and that a substantial portion of US workers inactive in the labor market should not be treated as gone forever, but should be expected to spring back into the labor market if demand rises to create jobs. The Fed should be trying to address this issue along with trying to stabilize prices.

Date: 2014-04
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