In my previous post I suggested that a nominal hourly wage target has a great deal of appeal from a theoretical perspective. Indeed I advocated that the Fed adopt a wage target in a paper I published back in 1995. Economists such as Earl Thompson and David Glasner discussed the idea even earlier. Now the very influential Jan Hatzius has suggested that wage growth can help guide Fed policy (in a paper written with Sven Jari Stehn.)
Goldman Sachs economists Sven Jari Stehn and Jan Hatzius propose a simpler approach: the Fed should focus on wage growth as a primary input into the “reaction function” that dictates its response to changing economic conditions.
Why focus more on wage growth instead of inflation, or even the unemployment rate itself?
Ultimately, wages will respond to tightening labor market conditions, whereas consumer price inflation may not.
“Low inflation should be indicative of the size of the employment gap,” write Stehn and Hatzius in a report.
“This approach, however, relies on a tight link between slack and price inflation. And the experience of the last couple of years suggests that price inflation is not very responsive to the employment gap at low levels of inflation and seems to fluctuate quite randomly when we are in the neighborhood of price stability. The behavior of core PCE inflation between 2011 and 2013 is a good example: core inflation rose by a full percentage point during 2011 and then dropped by the same amount in 2013, without any compelling macroeconomic explanation.”
Brad DeLong also linked to this story.
HT TravisV