The Economy Moves from Unemployment to Increasing Wages

As the economy speeds up  Federal Resereve Chair Janet Yellen discusses the growing need to increase interest rates. For now the idea will be reevaluated on a meeting-by-meeting basis to determine when that might happen. Her discussion with the Senate Banking Committee eludes to the idea that her annual target rate will be somewhere around 2% depending on the strength of the economy. For the near future the economy is expected to continue growing. 

The market forces related to the speed of the economy will determine these rates. Interest rates are the cost of borrowing money and is primarily based on demand and supply. As money is soaked up in the economy it becomes less liquid and shortages begin to raise the cost of borrowing that money to mitigate risks.

For example what you pay for a car today would cost you more tomorrow as the product price rises. You wouldn't get that money for free without paying some type of interest on it as the lender takes risks. Getting money today without having to save it yourself must have some cost in case it isn't paid back.

The government sets these rates through manipulating the federal fund rate that large institutions use to charge each other when borrowing money. When government buys securities they flood banks with money and when they sell securities they take money away from the market. The value of that money is impacted by its availability and fluidity.

The government considers adjusting the interest to make sure that inflation doesn't rise too rapidly and choke off employment. However, with unemployment at low levels rising inflation will help push wages upwards better balancing growth income and economic growth. For the moment it appears that unemployment has been solved for many people in society and government is no longer worried about it as much as they were in the past.

Unemployment Lowers and Opportunity Rises-At least for Some

October was a great month for the unemployment rate. According to government data, 214,000 jobs were added last month and unemployment moved down to 5.8%. This is great news for those who are actively seeking employment and are counted in the rankings. Those in the lowest wage rungs haven’t seen much improvement in wages. 

As unemployment numbers decline it naturally soaks up the slack in the labor market. Higher skilled workers usually get the cream puff jobs while lower skilled workers will still be picking up crumbs. Typically higher skilled workers find employment faster because they are needed in penetrating growth sectors of society that rely heavily on education and specialized skills. 

Lower wage service jobs and part-timers will be stuck in lower wages until slack in the market is tighten to create demand-not so easy in a global world. Some lower wage workers may find new training opportunities that help them move into higher paying employment but others may simply stay in lower wage positions unless they actively seek to improve their own skills. 

Eventually wages will rise on all levels of society but inflation may eat up a higher percentage of its purchasing power. For example, people are paid more today than they were 30 years ago but their individual purchasing power has declined. It simply takes more money to live a middle class lifestyle in American today than it did in the past.

What mitigates this relationship is the cost of doing business and the productivity of the American worker. When infrastructure is strong, positive growth policies are enacted, cost of information transference is low, productivity rises, education is reasonably priced then the overall costs of business will be lower. Improving on productivity and lowering the systematic costs in society helps create new employment opportunities.  

Feds Announce the End to the Era of Quantitative Easing

The Federal Reserve announced a discontinuing of the controversial bond buying program at the end of October this year. They will keep the short-term rates around 0 for the near future.  To this point, the risk to inflation is relatively low and the economy has shown mixed signals of strength in the last year or so. The Federal Reserve seeks to support the  3% projected national growth rate while not undercutting gains in the employment market. 

Lower Unemployment and Skepticism: 

Unemployment dropped to 5.9% but wages have not risen to provide an income boost. Most Americans are still skeptical of the economy and feel that improvements will occur sometime next year. They are not sure when next year but “sometime” seems to be the target spot. It is skepticism that is a result of not seeing high paying jobs and wage increases.

Bond Purchases: 

The bond purchases were controversial from the beginning but were seen as one avenue of encouraging development out of the world’s longest recession. Since 2008, the Fed’s investment holdings are around $4.5 trillion making them unprecedented in history. As the amount rises, so does the cost of debt, at a time where budgets are anything but balanced. 

The whole purpose of quantitative easing was to reduce interest rates to spur borrowing and improve economic activity (Newman, 2013). Theoretically, as interest rates decline businesses find it cheaper to expand operations and build more factories and businesses. It ignores the high rates of cash many of these businesses are sitting upon. 

As debt increases so does its overall costs. It becomes counter-intuitive to hold so much debt without reasonable assurance when and how it will be paid back. Long-term liabilities in business and government can be risky if the situation changes, another recession occurs, or the costs of servicing that debt rise unexpectedly. The Fed has ended an era of Keynesian induced development. 

Low Interest Rates: 

Keeping the interest rates low at a time when inflation risks are low is beneficial. Low interest rates can be a spark for development and investment (Dunlap, 2013). That development can be in the form of business growth, housing, or spending. As money stays cheap people will naturally spend more because it is easier for them to borrow than to save. 

Economic Optimism:

One factor that is not discussed in all the high finance terminology is optimism. American businesses must feel as though their future prospects will be lucrative. Investors want to feel that by borrowing and spending today they will reap significant rewards tomorrow.  Their analysis and decision-making leads to the conclusion that the economy will continue to get better and expand leaving them ample room for profit. If they perceive the economy will not get much better it makes more sense to purchase less risky investments or hold their money in the bank until brighter days are again apparent. 

Newman, R. (2013). A boost from the Fed. U.S. News Digital Weekly, 5 (10). 

Dunlap, N. (2013). Interest rates, the economy, and the market marionette. Journal of Property Management, 78 (6).