Since the start of the recession in December 2007, the U.S. unemployment rate has risen more than four percentage points. Similar sharp increases in unemployment have occurred in other severe recessions, such as those in 1973-75 and 1981-82. In the aftermath of those severe recessions, the economy rapidly recovered and unemployment quickly declined.

Will unemployment behave similarly following this recession? One reason why unemployment may not fall as quickly this time is that the labor market has changed substantively since the early 1980s. In the two recoveries since then, not only did unemployment continue to climb, but it remained persistently high in what have been termed "jobless recoveries." To the extent that labor market changes were responsible for these jobless recoveries, unemployment following the current recession may also be slow to recover.

A second reason unemployment may not fall quickly this time is that the recession has been coupled with a systemic banking crisis. While the United States has not had many instances of similar crises in the past, evidence from the experiences of other countries may shed light on how future unemployment in the United States is likely to behave. In general, the international data reveal large and persistent increases in unemployment in the aftermath of such events.

Knotek and Terry examine these factors and quantify their potential implications for the future U.S. unemployment rate. Their analysis suggests that recent trends in labor markets, combined with the presence of a banking crisis in the current recession, raise the likelihood that unemployment will recover much more slowly from this recession than past episodes of severe recession may suggest. Moreover, such a slow recovery has the potential to raise important questions for policymakers, including the level of unemployment consistent with their goals.

Beyond Inflation Targeting: Should Central Banks Target the Price Level? (PDF 455K)

By George A. Kahn

Over the last two decades, many central banks have adopted formal inflation targets to guide the conduct of monetary policy. During this period, inflation has come down in many countries and been relatively stable by historical standards. This favorable performance to date, however, has not stopped economists and policymakers from considering other approaches to the conduct of policy. One idea that has gained considerable attention is price-level targeting. Under a price-level target, a central bank would adjust its policy instrument—typically a short-term interest rate—in an effort to achieve a pre-announced level of a particular price index over the medium term. In contrast, under an inflation target, a central bank tries to achieve a pre-announced rate of inflation—that is, the change in the price level—over the medium term.

Kahn examines price-level targeting and discusses why policymakers may be reluctant to adopt such a strategy. Price-level targeting offers a number of potential benefits over inflation targeting. While inflation targets have helped stabilize inflation, the future level of prices remains uncertain. Price-level targets would by definition remove much of this uncertainty. Price-level targeting also has the advantage of potentially generating greater stability of both output and inflation. Particularly in the current low-inflation environment, where nominal policy rates have fallen near zero, price-level targeting may help support expectations of a positive inflation rate. These inflation expectations, in turn, would keep real interest rates negative, thereby stimulating interest-sensitive spending and contributing to economic recovery.

Yet the benefits of price-level targeting may be relatively small and uncertain. In addition, this strategy is untested in practice (except for Sweden in the 1930s) and would present challenges for policymakers in communicating with the public regarding the objectives and direction of policy over the medium run. As a result, price level targeting will not likely be adopted by central bankers without considerable further research or a dramatic deterioration in economic performance that leads policymakers to fundamentally reconsider how they conduct monetary policy.

Was Monetary Policy Optimal During Past Deflation Scares? (PDF 858K)

By Roberto M. Billi

Countries around the world have fallen into one of the deepest recessions since the Great Depression—a recession exacerbated by a severe financial crisis. Among the challenges that face monetary policymakers in such uncertain times is the danger that economies worldwide, including the United States, Japan, and the Euro Area, may enter a period of deflation, in which the prices of goods and services fall relentlessly.

Policymakers and economists agree that sustained deflation would likely worsen the already fragile economic and financial environment. Past episodes of deflation in the wake of financial crises have included falling asset values, collapsing business and consumer confidence, credit crunches, widespread bankruptcies, long-lasting surges in unemployment, and other adverse conditions. Moreover, a deflationary environment has the potential to complicate the conduct of monetary policy.

Policymakers have responded vigorously to the current crisis to prevent deflation. Some analysts warn that the U.S. policy response might be too proactive and cause a subsequent surge in inflation. At the same time, other analysts advise that the policy response in many other countries might not be active enough to fend off deflation. Of course, it is too early to judge the success of the different policies in the current episode. Still, it is possible to learn from past attempts by policymakers to fend off deflation under similar economic circumstances.

Billi shows how Taylor rules can be used to evaluate monetary policy. He then compares actual policy during past deflation scares—in Japan in the 1990s and in the United States in the 2000s—with how policy would have been conducted using Taylor rules based, to the extent possible, on data available at the time. The rule-based evidence suggests that Japan’s monetary policy response during its deflation scare might have been too weak, while the U.S. response might have been too strong.

Coming Home to Rural America: Demographic Shifts in the Tenth District (PDF 573K)

By Jason Henderson and Maria Akers

Sweeping demographic shifts are challenging the growth of many rural communities in the Tenth District. The retirement of the baby boomers, coupled with the exodus of young adults, threatens to leave rural areas with a rapidly aging population and a shrinking local workforce. The strength of these demographic changes could hinder economic growth for many rural communities in the future.

Rural communities in the district, however, are quietly enjoying another demographic shift—a return of middle-aged residents to rural places. This shift may be a promising sign for economic growth and wealth generation. Rural areas, of course, must continue to face the challenges of an aging population and the loss of young adults. But the in-migration of middle-aged residents and their families could raise a new question for economic development. Instead of simply trying to stem the tide of young adult out-migration, should rural areas focus more on the recent trend of middle-aged families coming home to rural America?

Henderson and Akers discuss the economic implications of aging populations and migration patterns on rural Tenth District communities. They find that while rural communities in the Tenth District will struggle with aging populations and the loss of young adults, enhancing quality-of-life amenities appear to be a way for rural communities to benefit from the return of middle-aged families.