In June 1996, Janet Yellen, then a member of the Federal Reserve Board of Governors, later Federal Reserve Chair, and now Treasury Secretary, wrote an extraordinary memo for then-Fed Chairman Alan Greenspan. Anyone who wants to understand how the world works should read it and thank Tim Barker, a historian who got it through the Freedom of Information Act.
Through a FOIA request, I got my hands on Janet Yellen’s 1996 memo that offered a theoretical explanation for why diminishing workers’ bargaining power might allow for easier monetary policy. You can download the note here: https://t.co/RiWpRNwczZ
—Tim Barker (@_TimBarker) January 19, 2023
What makes the memo so revealing is threefold.
First, although it expresses itself in abstruse technical language, it shares a perspective with the most radical left-wing critics of capitalism. Yellen goes 90 percent of the way to proclaim: “The history of all societies existing up to now is the history of class struggles.”
Second, Yellen is of course not calling for a proletarian revolution. Rather, as Noam Chomsky has pointed out, “vulgar Marxist rhetoric is not atypical of internal government documents,” simply “with inverted values.” In Yellen’s case, she advocates, as she writes, the “positive impact of increased job insecurity.” An increase in worker insecurity in the mid-1990s meant everyone was too scared to ask for raises, which meant companies wouldn’t have to raise prices, which meant that even with unemployment falling in At that time, the Federal Reserve did not need to raise interest rates to slow down the economy and put people out of work.
Third, Yellen is not a monster. In fact, from the perspective of normal Americans, she’s about as good as she gets at the pinnacle of power. The problem, for those of us down here, is her overall worldview. She personally might want things to be better, but she is certain that the science of economics places incredibly strict limits on what is possible, and all we can do is try to make small improvements within those limits.
The memo is titled “Job Insecurity, the Natural Rate of Unemployment, and the Phillips Curve.” Barker learned of the references in the books “Maestro” by Bob Woodward and “Empathy Economics” by Owen Ullmann. Greenspan distributed the memo to the entire Federal Open Market Committee, or FOMC, the group that decides interest rates, and it worked. As Ullmann says, “Yellen bailed Greenspan out of his bind.”
This is the context in which Yellen was writing.
By mid-1996 unemployment had fallen to 5.3 percent. To understand the significance of this, you need to understand the standard economic model at the Fed (and the other US power centers). They believe that there is an inescapable trade-off between unemployment and inflation: if unemployment falls, workers across the economy will have the bargaining power to raise their wages, causing unstoppable inflation, which a few steps later will cause the Rise of another hitler. (Germany’s hyperinflation during the 1920s is generally believed to be one reason the country was open to extreme leadership.) You might think it would be nice if everyone had a job and good pay, but that just shows you’re naive and/or a Nazi. .
Thus, as former Fed Chairman William McChesney Martin put it in 1955, the Federal Reserve’s job is to be “the chaperone who ordered the punch bowl removed just when the party was really heating up.” They can’t let unemployment go too low, or the party will get out of hand.
With this in mind, the economics profession has developed a concept called the non-inflationary unemployment rate, or NAIRU. If you’re looking for it online, resist Google’s urge to search for “Nauru,” which is not an economic theory but a small island nation in Micronesia.
In 1996, proponents of the NAIRU generally agreed that it was around 6 percent. Beneath that lay spiraling inflation, fascism, etc. So it was time for the Federal Reserve to start slowing down the economy. As Ullmann describes it, the members of the FOMC were “putting pressure on Greenspan to raise interest rates immediately.” But Greenspan was resistant to this; no one knew for sure where the NAIRU was.
This quasi-liberal stance was remarkable, given that Greenspan was an Ayn Rand acolyte. In 1957, the New York Times published a letter from Greenspan in which he declared that his novel “Atlas Shrugged” was “a celebration of life and happiness. Justice is relentless. Creative individuals and constant purpose and rationality bring joy and fulfillment. Parasites that persistently avoid purpose or reason perish as they should.”
But Greenspan’s logic was not that higher inflation was okay. Rather, as he eventually explained, “greater worker insecurity” had made possible “healthy economic performance” with low inflation and lower unemployment. This increase in worker insecurity, he believed, could be measured by surveys that found that in 1991, in the midst of a recession, 25 percent of workers agreed with the statement, “I often worry about getting fired.” . Yet five years later, with much lower unemployment, 46 percent did.
Yellen’s memo was an attempt to provide intellectual support for Greenspan’s belief that increased worker insecurity could coexist with low unemployment. She writes in the memo that “unemployment serves as a disciplinary device for workers.” Thus, even with low overall unemployment rates, “an increase in job insecurity due to change in technology or other factors could induce a permanent decrease in the natural rate of unemployment, together with a reduction in real wages and an increase in the markup of prices on unit labor costs. (The “natural rate of unemployment” is related to the NAIRU, but it is not exactly the same.) And, as Yellen describes it, there were several plausible ways in which the US economy had changed structurally that could increase job insecurity.
In the economy, says Yellen, there is class conflict. “Real wage negotiations,” she explains, “depend on the size of the ‘surplus’ available to be divided between workers and shareholders. The bargaining power of each party determines how much of the surplus it can extract. Bargaining power, in turn, depends on the external opportunities of each party. As unemployment declines, other things being equal, the bargaining power of workers increases, resulting in higher real wage agreements.
But other things are not always the same, because there are factors beyond the unemployment rate that can “result in a decrease in the bargaining power of workers.”
“Improvements in the ability of companies to outsource production, nationally or internationally, [and] new labor-saving technology,” according to Yellen, “improves management options and poses a threat to workers. Even if management does not actually use these options, their availability reduces the bargaining power of workers.” He doesn’t mention the North American Free Trade Agreement, which had gone into effect just a few years earlier, in 1994, but surely this was part of the dynamic he describes.
In addition, “lower unemployment benefits or decreased unionization could similarly result in decreased bargaining power for workers.”
All of these points, of course, have been raised repeatedly by various critics of capitalism. So it’s very important to hear them in Yellen’s voice, even if she presents them as having positive effects.
And that’s the most important thing to understand about Yellen’s memo. In his view of how the economy works, the insecurity that workers hate is good for everyone, including them, because it’s the best we can do without causing catastrophe. But is she right?
For starters, is a somewhat higher level of inflation really such a frightening specter? Creditors hate inflation because it causes the real value of their financial assets to fall. But most people might prefer that if jobs are plentiful and wages don’t lag behind inflation (although that can, of course, happen).
Beyond that, does increasing worker power necessarily lead to higher inflation? Perhaps companies could avoid rising prices by cutting profits or executive salaries. Perhaps employees would be willing to forgo higher wages in exchange for a say in how work is organized. They would certainly be concerned about raising the price of their company’s product if they owned the company. Everyone would also be more concerned about inflation reducing the value of financial assets if they had more financial assets.
But Yellen’s conventional mind will never ask such questions, and no one with a more flexible imagination will ever sit in the Treasury secretary’s chair. (Tellingly, here in 2023, she’s not expressing interest in creative measures like minting a $1 trillion platinum coin to prevent the GOP-controlled Congress from leading the US government into catastrophic default and without sense). there are people at the top who are trying to make this the best of all possible worlds, but the best world they can conceive of is still terrible.
The Treasury Department did not immediately respond to Yellen’s request for comment.