WSJ: How have your views on structural unemployment evolved over the last few months?

MR. KOCHERLAKOTA: I was interpreted as having stronger views than I probably did when I started talking about this in the first place.

I think it's very difficult to put down, quote-unquote, a "number" for structural unemployment...

...The evidence I pointed to in my August speech was the fact that vacancies--job openings--have gone up without seeing much downward movement in unemployment. That's a piece of evidence that might suggest that structural unemployment is high.

Counter to that--people pointed this out rightly to me, some in private conversation and some publicly--there's reason to be suspicious about the intensity of how much companies are looking. When you post an opening, does it mean the same thing in 2006 as it does in 2010? Maybe the answer is no to that.

That's a reason to be cautious about putting too much weight on that one piece of evidence. At the same time, on the sectoral side, it is certainly true that many sectors took a big hit in employment during the course of the recession and remain depressed.

On the other hand, I just think the recovery is going to be uneven across sectors and across regions of the country. And that would be a reason again where you might think, boy, that 9.8% unemployment, more of it is structural than you might typically think would be structural.

As shown in figure 5, the Beveridge curve appears to have shifted out in recent years. However, the Beveridge curve can shift out for a variety of reasons, including some that are essentially cyclical in nature, so it is important to understand the sources of a shift to assess whether it represents persistent structural forces.

There is some evidence suggesting that structural factors account for a portion of the Beveridge curve's outward shift. In particular, the shift may partly reflect a decline in the efficiency with which unemployed workers are matched to vacant jobs. However, given that the apparent decline in matching efficiency coincided with a large reduction in job vacancies, the two developments may be related. In particular, weak labor demand may be causing the labor market to operate less efficiently than would typically be the case, and matching efficiency may return to normal as demand for workers improves...

Another portion of the recent outward shift in the Beveridge curve is likely due to increases in the maximum duration of unemployment benefits, which may have induced some unemployed workers to be more selective in the job offers they accept. ..

Moreover, at least some of the recent outward shift in the Beveridge curve appears to reflect cyclical rather than structural influences. For example, vacancies typically adjust more quickly than unemployment to changes in labor demand, causing counterclockwise movements in vacancy-unemployment space that can look like shifts in the Beveridge curve. Indeed, as is evident from the figure, such counterclockwise movements have occurred in most previous recessions.

Finally, it is worth emphasizing that most of the co-movement between unemployment and vacancies in recent years does not appear especially unusual. In particular, low vacancies and elevated layoffs--likely driven by weak labor demand--can account for much of the increase in unemployment that has occurred since mid-2008.

For a differing perspective, click here.

More recently, however, we have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking hold.

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Although it is likely that economic growth will pick up this year and that the unemployment rate will decline somewhat, progress toward the Federal Reserve's statutory objectives of maximum employment and stable prices is expected to remain slow. The projections submitted by Federal Open Market Committee (FOMC) participants in November showed that, notwithstanding forecasts of increased growth in 2011 and 2012, most participants expected the unemployment rate to be close to 8 percent two years from now. At this rate of improvement, it could take four to five more years for the job market to normalize fully.

60 Minutes: You seem to be saying that the recovery that we're experiencing now is not self-sustaining.

Bernanke: It may not be. It's very close to the border. It takes about two and a half percent growth just to keep unemployment stable. And that's about what we're getting. We're not very far from the level where the economy is not self-sustaining.

Economists at my Bank have studied this question, and they conclude that most of the rise in unemployment our country has experienced is cyclical. If there has been any rise in the natural rate of unemployment, it is likely to be small. Put another way, the most important reason employers are hiring so slowly is that their business activity has been slow to pick up, not because there has been a sudden mismatch between worker skills and available jobs.

[T]he Committee noted that progress toward lower employment has been "disappointingly slow." That observation makes the important distinction that it is not the high level of unemployment alone that motivated the action, but rather the slow pace of improvement and the belief that further monetary stimulus could help.

While the economy is growing, and I expect that it will continue to grow next year, the current pace of growth is not fast enough to make much progress in lowering the unemployment rate.

[T]he most recent recession is far less a reflection of dislocation in a few industries but rather reflects a general decline in almost all industries... According to survey data, businesses are having no problem finding skilled workers for what were considered hard-to-fill vacancies. This is consistent with my ongoing discussions with representatives of businesses, who generally report no difficulty finding qualified workers even for quite specialized positions... However, most small businesses are not expecting to increase employment. When I talk with representatives of businesses, the primary reason they give for this is they are not seeing sufficient demand for their products. If they were confident that demand would pick up, they would – and easily could – hire additional workers.

Editor's note:  to understand why President Rosengren felt the need to state the obvious, please see:  http://www.wrightson.com/federal_reserve/fedspeak/item/5585

Good economic policy is about using the right tool for the problem at hand. The mismatch problems in the labor market do not strike me as readily amenable to the kinds of monetary policy tools currently available to the Fed. But they may well be amenable to other types of policy tools, like job retraining programs or foreclosure mitigation strategies. As Chairman Bernanke said in his Jackson Hole speech in August, central bankers alone cannot solve the world’s economic problems.

What does this change in the relationship between job openings and unemployment connote? In a word, mismatch. Firms have jobs, but can’t find appropriate workers. The workers want to work, but can’t find appropriate jobs. There are many possible sources of mismatch—geography, skills, demography—and they are probably all at work. Whatever the source, though, it is hard to see how the Fed can do much to cure this problem. Monetary stimulus has provided conditions so that manufacturing plants want to hire new workers. But the Fed does not have a means to transform construction workers into manufacturing workers.

Of course, the key question is: How much of the current unemployment rate is really due to mismatch, as opposed to conditions that the Fed can readily ameliorate? The answer seems to be a lot. I mentioned that the relationship between unemployment and job openings was stable from December 2000 through June 2008. Were that stable relationship still in place today, and given the current job opening rate of 2.2 percent, we would have an unemployment rate of closer to 6.5 percent, not 9.5 percent. Most of the existing unemployment represents mismatch that is not readily amenable to monetary policy.¹

[I]mportant concerns remain. One particularly difficult issue is the continued high rate of unemployment. High unemployment imposes heavy costs on workers and their families, as well as on our society as a whole.

We have not yet seen any substantial improvement in hiring rates. Aggressive moves by businesses to reduce costs by cutting jobs and work hours have resulted in solid gains in aggregate productivity. This bodes well for increased employment in the coming year, but I anticipate that employers will add jobs cautiously in order to preserve these cost savings and efficiency gains for as long as possible.

The federal funds rate needs to be exceptionally low for an extended period to contribute to easier financial conditions to support economic activity... In the current environment, we are not getting the job gains that we would like to get. We would like to see employment gains much more substantially than what we’ve gotten. What that tells us is that monetary policy needs to be on a very easy setting right now.

A realistic level [for unemployment] might be above the [4.5%] level I saw when I joined the Fed. I do believe the structural rate of unemployment has risen. Calibrating monetary stimulus to a goal of bringing unemployment fully to prerecession levels would be a mistake.

The usual starting point for thinking about this issue is Okun’s famous “law” relating gross domestic product (GDP) growth to the change in the unemployment rate. The usual estimates of Okun’s law imply that the unemployment rate should be at least a percentage point lower than the 9.7 percent we actually saw last Friday.

However, this calculation assumes that the association between economic activity and the unemployment rate does not vary across the business cycle. In fact, many employment indicators tend to deteriorate faster during recessions than they improve during expansions. A simple statistical model that uses the historical relationship between GDP growth and unemployment estimated only during recessions can actually account for the sharp rise in the unemployment rate.