07/15/2013 06:06 pm ET Updated Dec 06, 2017

No Tapering By Fed This Year

Fed Chairman Bernanke once more 'clarified' his remarks, saying there is no way the Fed will even begin to raise their (short term) interest rates when the unemployment rate falls to 6.5 percent. In fact, he can't, if the economy continues to look as soft as now.

"There will not be an automatic increase in interest rates when unemployment hits 6.5 percent," said Bernanke. "And, given the weak labor market and low inflation, "it may well be sometime after we hit 6.5 percent before rates reach any significant level," the Fed chief added.

So there is good reason to believe the Fed won't begin to 'taper' purchases of QE3 securities this year, either. Why? The labor market is even weaker, and the real unemployment rate is much higher, than the current 7.6 percent.

Calculated Risk and many others have noted a significant portion of the decline in the unemployment rate from 10.0 percent in October 2009 to 7.6 percent in June 2013 was related to a decline in the participation rate from 65.0 percent in Oct 2009 to 63.5 percent in June 2013. If the participation rate had held steady, the unemployment rate would be 9.7 percent (assuming an increase in the participation rate with the same employment level).


Graph: Calculated Risk

Some 2 million discouraged workers have been sitting on the sidelines for more than 6 months and the labor participation rate was as high as 67 percent until the Great Recession, which tells us why this recession was so deep. And most of the unemployed are now the 24 to 55 year-olds of prime working age, which is a tremendous loss of the most productive workers.

The June 195,000 non-farm payroll increase was a good number, though not the 300,000 per month that prevails during a healthy economy. The change in total nonfarm payroll employment for April was revised from +149,000 to +199,000, and the change for May was revised from +175,000 to +195,000. With these revisions, employment gains in April and May combined were 70,000 higher than previously reported.

Another reason QE3 may not end soon is the downgrading of GDP growth estimates. The IMF just came out with its prediction of just 1.8 percent U.S. growth in 2013, which is a downgrade. The Fed now has the most optimistic growth projection of 2.3 to 2.6 percent in 2013.

So who do we believe? It looks like the Fed wants have its cake and eat it, too, as they say. It wants to raise expectations of improving growth by saying the outright purchase of $85 billion per month in securities can end without hurting growth, but not its own control of the 0.25 percent short term rate. This is that two-edged sword of market expectations we have been talking about. The markets aren't believing him, so that any talk of ending QE3 says the economy isn't strong enough to grow on its own.

Harlan Green © 2013