[Marxism] Whither the Fed? The concept of the NAIRU

["Jurriaan Bendien" <andromeda246@xxxxxxxxx>]

Yoshie cited:

"Mr Galbraith suggests that the natural rate theory is a convenient pretext
for the Fed -- which has a dual goal of price stability and full
employment -- for raising rates when the economy is well below full
employment. . . . (Andrew Balls, "Fed Rates Theory Echoes 19th Century
Swede's," Financial Times, July 12, 2004, p. 6)."

To my knowledge, the Fed has no "goal of full employment". Rather it
operates with some kind of version of the NAIRU.
This acronym refers specifically to the "non-accelerating inflation rate of
unemployment" or the "natural rate of unemployment". This is a "steady state
unemployment rate", above which inflation would fall, and below which
inflation would rise. So,

If U* is the NAIRU and U is the actual inflation rate, the theory says that:
if U < U* for some years, inflationary expectations rise and the inflation
rate will accelerate;
if U > U* for some years, inflationary expectations fall, and the inflation
rate will slow down (up to disinflation); and
if U = U*, the inflation rate will tend to stay the same, unless there is an
exogenous shock (for example rising oil prices).

Critics of the famous "Phillips curve" argued specifically that if
government macroeconomic policy was driven by a full employment objective,
then this caused expectations to shift, so that steadily accelerating
inflation, instead of reduced unemployment, would be the result. So,
government economic policy (or at least monetary policy) should then not be
influenced by any level of unemployment below a critical level, set by a
NAIRU econometrically calculated.

The NAIRU theory is thus really an argument against active Keynesian "demand
management" and in favor of free markets (at least on the macroeconomic
level). Typically the Monetarists claim that the correct approach to
unemployment is through microeconomic measures (to lower the NAIRU, whatever
its exact level may be calculated as), rather than macroeconomic activity
based on an estimate of the NAIRU in relation to the actual level of
unemployment. Monetary policy should aim primarily at price stability, and
price stability is associated with a natural rate of unemployment (perhaps
6% or so).

In the words of econometrist Robert Eisner, "The conventional NAIRU relies
on two basic assumptions: that (a) current and past inflation in equilibrium
generates equal future-expected and actual inflation; and (b) that for any
given time, there is a specific NAIRU that generates equilibrium.
Unemployment above that rate brings continuously decreasing inflation, while
unemployment below it continues to increase or accelerate inflation. (...)
The NAIRU goes far beyond the old Phillips curve, which I also never
enthusiastically supported. But the Phillips curve at least told us that we
could use policy to reduce unemployment, although there was a price to be
paid in terms of added inflation. By contrast the NAIRU tells us there is
nothing to be done. Unemployment cannot be cut below this so-called natural
or non-accelerating inflation rate of unemployment because if that attempt
generates expectations of higher inflation, the old Phillips curve, in
effect, will move up." (Robert Eisner, "The NAIRU and fiscal and monetary
policy for now and our future: some comments", in Edward J. Nell & Mathew
Forstater (eds.), Reinventing Functional Finance. Cheltenham, UK: Edward
Elgar, 2003, p. 91).

What Eisner refers to, is that what exactly the NAIRU happens to be, is
estimated in modelling from the observed longer-term relationship between
unemployment, inflation and associated variables, most critically of course
the interest rate. But this means that the NAIRU calculation in modelling
yields a "most fascinating" result. As the observed number of long-term
unemployed rises over time, despite low inflation, the "natural rate of
unemployment" that is said to keep the capitalist system in balance also
rises. Funny that, eh. It's the perfect economic justification of "the
reserve army of labor" as being necessary and inevitable. If the observed
unemployment rate rises long-term, despite price stability, then the NAIRU
must also increase.

All we can then really conclude is, that it nowadays takes more unemployed
people, to keep prices stable.

Obviously though, the US government is not dogmatically monetarist in its
stance; monetarist ideas are mixed with military Keynesianism, i.e.
pump-priming through lavish military budgets deemed necessary to safeguard
the functioning of free markets. As President Bush put it (Freudian slip,
this) when he signed the $417 billion Department of Defense Appropriations
Act of 2005 during a ceremony in the Eisenhower Executive Office Building on
Thursday, "Our enemies are innovative and resourceful, and so are we. They
never stop thinking about new ways to harm our country and our people, and
neither do we."

Jurriaan




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