New study questions fighting inflation by cutting jobs
Throughout the flush years of the '60s, most economists confidently believed that unemployment and inflation were riding opposite ends of an imaginary seesaw: When one went up, the other went down.
But during the '70s a new phenomenon - stagflation - knocked over the seesaw theory. Defying gravity, inflation and unemployment both rose, while economic growth remained mired on the ground.
What is the real relationship among workers, jobs, and inflation? A new study by the Brookings Institution concludes that, over the past decade, the unemployment rate has not been a key influence on the level of inflation - and that the percentage of jobless workers has been creeping upward because of a changing job market.
''The labor market has been neither a major restraint on inflation nor a major cause of inflation,'' writes Martin Neil Baily, a Brookings senior fellow who edited the study. ''Unemployment has worsened because of structural problems.''
President Kennedy's Council of Economic Advisers, in the opening years of the '60s, decided that a normal, healthy economy would have a 4 percent unemployment rate. Events from 1959 to 1964 - when a jobless rate of about 4 percent was accompanied by virtually stable prices - seemed to support their view.
According to the Brookings study, this ''natural'' jobless rate has increased over the intervening years. By 1972 unemployment would have to have been about 6 .2 percent simply to avoid making inflation worse, says Robert Gordon, a Northwestern University economics professor.
Thus, for the most part, the '70s were a period of normal labor demand, Mr. Baily concludes. The natural jobless rate was higher; levels of unemployment that would have been considered high in the '60s didn't result in a reduction in inflation.
''It follows that very high unemployment rates would have been required in the past few years to bring about rates of inflation much below the ones actually experienced,'' Mr. Baily writes.
The link between unemployment and inflation is thus very elastic, he says. He feels the layoff rate of those already employed, not the overall unemployment rate, has a bigger impact on potentially inflationary wage increases. If workers see many colleagues being laid off, they are more anxious than when the general level of unemployment is high.
Why has the ''natural'' unemployment rate risen?
For one thing, it has risen only for certain hard-hit demographic slices of the work force. Over the last 25 years, the unemployment rate for white males has fluctuated up and down with the business cycle, Baily points out, while the jobless rate for blacks aged 16 to 19 has been climbing steadily upward, from close to 20 percent in the mid-'50s to over 35 percent last year.
''The chronically hard-to-employ have had adverse experiences in the 1970s but other workers have not,'' Baily writes.
The jobless rate of the hard-to-employ has been affected by:
* The rising minimum wage, which discourages employers from adding fresh, untrained workers.
* The rising number of workers in the ''uncovered sector'' - jobs such as baby-sitting and lawn-mowing that don't show up in the official employment figures.
* High entry-level wages and few openings for trainees in many trades and unionized professions such as steel, coal, and auto manufacturing.
''It seems that the increase over time in the number of young workers has coincided with slow growth in the number of manual jobs that are fairly well paid and have training and promotion prospects,'' Baily writes.
To fight inflation without the painful cost of 10 percent unemployment, Baily suggests a different mix of monetary and fiscal policy. Presumably, he feels the Federal Reserve should loosen its grip on the money supply, while the administration redoubles efforts to rope in runaway deficits.