After five years, the Fed’s low rates aren’t working any labor-market magic

04/28/2014 12:00 AM

04/29/2014 6:29 PM

Let’s state flat out that the super-low interest rates engineered by the U.S. Federal Reserve helped save the economy by stabilizing the banking and financial sectors.

But after repairing bank balance sheets, the Fed’s most crucial reason for maintaining low rates is to get more people back into jobs.

After five years of low rates, however, the track record is there. The Fed’s policy hasn’t worked any labor market magic. That’s become another head-scratcher in what’s now one of the longest but historically slowest recoveries.

Here’s a theory: Instead of hiring more people, companies are using the cheap borrowing costs to buy machinery and technology instead.

In the meantime, consider that the cost of labor overall continues to rise. Not because of wage boosts, but mainly because of the rising costs of health care and health insurance reform.

You can argue that such labor cost increases are marginal, but many businesses live and die on the margin. The lower borrowing costs for capital equipment combined with the higher labor costs warp the hiring equation just enough so that companies are just buying better machinery to make more machinery. They’re “hiring” machines rather than people.

This actually has been going on for 40 years, which has been a period of relatively lower interest rates and huge technological leaps. Government data show that since 1975, U.S. manufacturing output has doubled, yet manufacturing employment has declined by a third.

The recent super-low rates have done nothing to reverse that trend.

Before the recession, the U.S. had about 14 million manufacturing workers. The recession chopped that to about 12 million.

Since the end of the recession in June 2009, we’ve gained only about 350,000 manufacturing workers. Over that time, however, manufacturing output is up a whopping 22 percent.

(Some credit for that increase also goes to the amazing productivity of Amerian workers. The myth that U.S. manufacturing is in decline relative to the rest of the world is just that.)

Figures also show that while capital spending on equipment slowed dramatically in the recession, it picked up slowly through the beginning of the recovery and has been increasing since. Businesses are now telling analysts they expect a surge in capital spending in the next two years.

But does anyone think we’ll see a corresponding surge in hiring?

Because of the fragile nature of the recovery, the Fed needs to stick with its low-rate policy. The fears by some economists of a big outburst of inflation are overblown.

But let’s also not downplay the collateral damage that comes with low rates. Besides possibly making it easier for companies to buy equipment, the rates have helped enrich bankers — many of the very same people responsible for the 2008 financial collapse. And they’ve punished savers, many of them older consumers who point out that earning a bit more interest income would help them spend more and thus spur along the recovery.

And they’re just a big, flashing sign of no-confidence in the economy by the Fed.

The latest from the Fed is that low rates will continue for a while, but Fed officials are hinting that they’re going to be more flexible than in the past about deciding when to begin raising them.

A historically normal level of rates will end any warping of business decisions by executives who can borrow money so cheaply. Economic historians are going to take years figuring out just how big the distorting effects of low rates have been.

Normal rates will also end the sense of favoritism toward bankers and unfairness toward savers.

In 1994, The Wall Street Journal noted last week, the Fed

doubled

short-term rates from 3 percent to 6 percent and the U.S. had six years of growth after that.

So let’s not be afraid of a return to a normal interest rate environment when it comes.

It will mean the economy is finally on sound footing and the labor market is indeed fixed.

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