What’s happened to Nairu?
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Rich Miller reported yesterday that a number of luminaries have diagnosed a significant upwards move in Nairu, the rate of unemployment below which inflation starts kicking in — or, to put it another way, the level of unemployment which the Fed should consider to constitute “full employment”. They include JP Morgan’s chief economist Bruce Kasman; Harvard’s Lawrence Katz; and Ned Phelps, who got his Nobel for looking at such things.
Against that, notes Miller, the Fed doesn’t seem to think that Nairu has increased at all.
One of the people Miller quotes as believing that Nairu has risen is Pimco CEO Mohamed El-Erian. I asked him for a bit more detail on his thinking, firstly on what causes changes in Nairu. He replied:
A number of factors are contributing to the increase in theNAIRU. They include:
First, lower labor mobility which, in part, is due to the poor state of the housing market where negative equity positions are hindering what has traditionally been a geographically flexible job hunting process.
Second, the elimination of activities that were facilitated by turbo-charged and unsustainable Wall Street credit factories. These activities that can no longer be supported in a de-levering and de-risking world.
Third, industries–such as autos, finance, and real estate–that are experiencing a major size reset after a period of over-expansion
Fourth, an erosion of skills as people are unemployed for longer
Fifth, the ongoing re-alignment of the global economy in the context of overall over-capacity
All this points to a worrisome picture for unemployment. High rates of unemployment will persist for longer; and the reversion will be to a higher NAIRU. As I noted in today’s FT column, this has implications for the sustainability of the growth recovery, the robustness of social safety nets and other aspects of the social contract, and the mobilization of political support for longer-term structural reforms.
El-Erian also confirmed for me that he reckons a 7% Nairu “sounds reasonable” — well above the 4.8%-5% that the Fed seems to be using.
Determinations of Nairu are always more of an art than a science, but it does seem reasonable to assume that the reasons El-Erian outlines would bring it up. In turn, that’s going to raise problems for right-leaning economists and politicians, who are going to find it harder to extol the abilities of the free market to find employment for all, and thereby dismiss claims that we need to provide a robust social safety net for the millions of Americans who can’t find jobs.