By Steven K. Beckner
ST. LOUIS (MNI) – Minneapolis Federal Reserve Bank President
Narayana Kocherlakota Tuesday evening said that there are strict limits
to how much the Fed can do to reduce unemployment.
Kocherlakota said monetary policy can help reduce joblessness but
only with the help of non-monetary policies to stimulate demand for
He said the Fed has largely succeeded in its goal of keeping
inflation around 2% by counteracting weakness in product demand, but
acknowledged that it has fallen short of its maximum employment goal
because it has much less ability to offset reductions in labor demand.
“Employment is much lower than four years ago,” he said, because of
factors such as the increased difficulty in starting a business and
business uncertainty about future taxes and regulations.
Government policies to encourage hiring are needed in conjunction
with easy monetary policy, Kocherlakota said in a lecture at the
Washington University School of Law.
Kocherlakota’s implication was that it would be relatively
ineffective for the Fed to adopt additional monetary easing measures.
Kocherlakota was one of three Federal Reserve Bank presidents who
dissented against easing measures adopted by the Fed’s policymaking
Federal Open Market Committee last August and September.
The Fed’s statutory “dual mandate” is to provide both price
stability and maximum employment, but Kocherlakota said that mandate has
run up against two kinds of “shocks” since the Great Recession began:
“product demand shocks” and “labor demand shocks.”
Drawing from an econometric model on which his lecture was based,
Kocherlakota said the Fed can, by lowering the real interest rate,
influence demand for goods and services and indirectly help reduce
unemployment in that way. But it has much less impact on demand for
“The first implication of the model is that monetary policy can
offset the impact of the product demand shocks on employment, but it
cannot offset the employment loss due to the fall in labor demand and
any associated slow real wage adjustment,” he said, summarizing his
findings in prepared remarks. “As a result, the level of ‘maximum
employment’ achievable through monetary policy is less than the ‘full
employment’ of labor resources.”
He said a second implication of his model is that “non-monetary
policies specifically designed to stimulate the demand for workers (such
as government subsidies for hiring) can offset some of the employment
loss due to the labor demand shocks, but only if accompanied by monetary
“That is, monetary and non-monetary policy must work in concert to
reduce the impact of a decline in labor demand; neither can do it
alone,” he added.
Kocherlakota concluded that “the Federal Reserve is performing
about as well as it can on both mandates.”
“The Federal Reserve’s accommodative policy has offset much of the
impact of product demand shocks and so has kept inflation near target,”
he said. “However, this policy has been unable to offset the large
adverse shocks to labor demand.”
“The model implies that, in terms of employment, there are limits
to what monetary policy can achieve on its own,” he added.
Kocherlakota offered a number of reasons why “firms want to hire
fewer workers/hours in 2012 than in 2007.” For one thing, he said it is
“harder to start up new firms because households have less net worth,”
and that is important because “young firms are an important source of
He said “the recession eliminated many firms” and that there is
less competition among remaining firms.
Kocherlakota also cited a host of “uncertainties” facing would-be
“Firms now see adverse financial shocks as being more likely than
they did in 2007,” he said, adding that firms “learned in 2008 that such
shocks can trigger large layoffs,” and so “this possibility makes them
less willing to hire new workers.”
Also, “firms remain concerned about possible increases in taxes and
regulations,” Kocherlakota said.
Ideally, he said “real wages should fall to clear markets,” but
“firms may face internal and external impediments to cutting real wages
for new hires.”
“This gives rise to even lower employment,” he said.
Without recommending anything in particular, Kocherlakota said the
government could help reduce unempoloyment by stimulating demand for
** MNI **