MNI INTERVIEW: Fed Framework Preserves Full Employment Lessons

The Federal Reserve's 2025 framework revision largely retained the 2020 shift to support a broad-based view of maximum employment so long as inflation appears to be under control, retaining the experience of the economy's long recovery from the financial crisis, Preston Mui, senior economist at Employ America, told MNI.

The Fed eliminated all three mentions of mitigating “shortfalls” in employment from its framework as expected. But rather than reverting to its earlier focus on symmetric risks to maximum employment, it now explicitly states that employment "may at times run above real-time assessments of maximum employment without necessarily creating risks to price stability." 

"They did add language that really codified some of the lessons that they learned in the 2010s about the potential costs of underestimating where full employment can go," said Mui of Employ America, a labor market advocacy and research group. 

"What they've done has preserved their wider use of labor market indicators beyond the unemployment rate," Mui said. "When you listen to the Fed talk, it is definitely thinking about the labor market in very broad terms. Not just between the household survey and the establishment survey, but also people are always talking about quit rates, layoff rates, hiring rates, job openings."

NOT PREEMPTIVE 

Since 2012, the FOMC has used the consensus statement as a quasi-constitutional document to describe the major issues it will consider when setting monetary policy. Fed Chair Powell set a benchmark to revisit the document every five years, with the 2020 revision taking the view that a robust job market can be sustained without causing an outbreak of inflation. 

In the late 2010s, the Fed had a lot of trouble over the years deciding how hot to let the job market run before raising interest rates. 

Against expectations, the Fed did not walk away from that view and won’t automatically raise interest rates when the job market is hot. Additionally, the Fed will continue to rely on a broad suite of labor market indicators, Mui said. 

"Interpreting where full employment is, its a moving target, and trying to figure out where it is and where it should be is almost more art than science, and it requires a lot of judgment in thinking about when to use various indicators and when to not use it," he added. 

Relying on more than just the unemployment rate has served the Fed well in recent years, Mui said. "The framework changes don't do away with that. They preserve that impulse and I think that's good."

SUPPLY HEADWINDS 

The biggest misstep in the 2025 framework is that it lacked any changes around the way that the Fed intends to deal with supply shocks that look to become more frequent, Mui said. (See: MNI: Fed To Examine If Framework Robust To Any Scenario) 

Chair Powell in May said the U.S. may be entering a period of "more frequent, and potentially more persistent, supply shocks — a difficult challenge for the economy and for central banks." Central bankers around the world have noted the increased likelihood of supply headwinds that can boost inflation and suppress growth at the same time. 

The Fed now brought back 2012 language on taking a "balanced approach" when its employment and inflation goals are in conflict, saying it will take into account the extent of departures from the goals and the potentially different time horizons over which each is projected to return to goal. 

"There's a missed opportunity to think harder about the way that they're going to deal with supply driven inflation, which will probably be relevant over the next few years," Mui said. "The effect of monetary policy on the supply side is underrated and kind of a dynamic thing that they have to take into account."