In June 1996 Janet Yellen – then a member of the Federal Reserve Board of Governors, later Chair of the Fed herself and currently Secretary of the Treasury – wrote a extraordinary note to the then Fed Chairman Alan Greenspan. Anyone who wants to understand how the world works should read it, and thank Tim Barker, a historian who obtained it via the Freedom of Information Act.
What makes the memo so telling is threefold.
First, it shares a perspective with the most radical left-wing critiques of capitalism, even if couched in abstruse technical language. Yellen goes 90 percent of the way to proclaim“The history of all hitherto existing society is the history of class struggle.”
Second, Yellen is obviously not calling for a proletarian revolution. Rather like Noam Chomsky have pointed out“vulgar Marxist rhetoric is not untypical of internal government documents,” just “with values reversed.” In Yellen’s case, she argues for, as she writes, the positive “effect of increased job insecurity.” An increase in worker insecurity in the mid-1990s meant that everyone was too scared to ask for raises, which meant that companies didn’t have to raise prices, which meant that even with falling unemployment at the time, Don’t raise interest rates to slow the economy and throw people out of work.
Third, Yellen is not a monster. In fact, from the perspective of ordinary Americans, she’s about as good as it gets at the pinnacle of power. The problem for us down here on earth is her overall worldview. She may personally want things to be nicer, but is sure that economics sets incredibly sharp limits to 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 it from 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 sets interest rates — and it worked. As Ullmann puts it: “Yellen rescued Greenspan from his tight spot.”
Here is the context in which Yellen wrote.
By mid-1996, unemployment had fallen to 5.3 percent. To understand the significance of this, it is necessary to understand the standard economic model of the Fed (and the other centers of American power). There is, they believe, an inevitable trade-off between unemployment and inflation: if unemployment becomes low, workers across the economy will have the bargaining power to bid up their wages, causing unstoppable inflation, which a few steps later will cause the rise of another Hitler. (Germany’s hyperinflation in the 1920s is generally believed to be one of the reasons the country was open to extreme leadership.) You might think it would be nice for everyone to have jobs and good wages, but it just goes to show that You are naive and/or a Nazi.
Therefore, as former Fed Chairman William McChesney Martin said in 1955, the Federal Reserve’s job is to be the “chaperone who ordered the punch bowl removed just as the party was really heating up.” They cannot let unemployment get too low, otherwise the party will get out of hand.
With this in mind, the economics profession has developed a concept called the non-accelerating inflation rate of unemployment, or NAIRU. If you search for it online, resist Google’s urge to search for “Nauru” instead, which is not an economic theory, but rather a small island nation in Micronesia.
In 1996, NAIRU proponents generally agreed that it was somewhere around 6 percent. Beneath that spiraled inflation, fascism, etc. It was therefore time for the Fed to start slowing the economy. As Ullmann describes it, members of the FOMC encouraged Greenspan to raise interest rates immediately. But Greenspan resisted this; no one knew for sure where the NAIRU was.
This quasi-liberal stance was remarkable, given that Greenspan was an acolyte of Ayn Rand. In 1957, the New York Times published a letter from Greenspan in which he declared that her novel “Atlas Shrugged” was “a celebration of life and happiness. Justice is inexorable. Creative individuals and unwavering purpose and rationality achieve joy and satisfaction. Parasites who persistently avoid either purpose or reason perish as they should. “
But Greenspan’s rationale was not that higher inflation was OK. Rather, as he eventually explained, “greater worker insecurity” had enabled a “healthy economic performance” with both low inflation and lower unemployment. This increased job 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 being laid off”—yet five years later , with much lower unemployment did 46 per cent.
Yellen’s memo was an attempt to provide intellectual support for Greenspan’s belief that increased job insecurity could coexist with low unemployment. She writes in the memo that “unemployment serves as a tool for worker discipline.” Therefore, even with low aggregate unemployment rates, “an increase in job insecurity due to changing technology or other factors may induce a permanent decline in the natural rate of unemployment, along with a reduction in real wages and an increase in price inflation above unit labor costs.” (The “natural rate of unemployment” is related to, but not quite the same as, the NAIRU.) And as Yellen describes it, there were several plausible ways , after which the American economy had changed structurally, which could increase job insecurity.
Baked into the economy, Yellen says, is class conflict. “Real wage agreements,” she explains, “depend on the size of the ‘surplus’ available to be shared between workers and shareholders. The bargaining power of each side determines the share of the profit that it can extract. Bargaining power depends on in exchange for each side’s external opportunities. As unemployment falls, other things being equal, labor’s bargaining power increases, resulting in higher real wage settlements.”
But other things are not always equal because there are factors beyond unemployment that can “translate into a decline in workers’ bargaining power.”
“Improvements in companies’ ability to outsource production – domestically or internationally – [and] new labor-saving technology,” according to Yellen, “enhances management’s opportunities and serves as a threat to workers. Even if management doesn’t actually use these options, their availability lowers workers’ bargaining power.” She doesn’t mention the North American Free Trade Agreement, which had gone into effect just a few years earlier in 1994, but it was certainly part of the dynamic she describes.
Furthermore, “lower unemployment benefits or reduced unionization could similarly result in a decrease in workers’ bargaining power.”
All of these points have of course been made repeatedly by various critics of capitalism. So it’s something to hear them in Yellen’s voice, even if she presents them as positive effects.
And that is the most important thing to understand about the Yellen memo. In her view of how economics works, the uncertainty that workers hate is good for everyone, including them, because it’s the best we can do without provoking disaster. But is she right?
For starters, is a slightly higher level of inflation really such a scary specter? Creditors hate inflation because it causes their financial assets to decline in real value. But most people might prefer it if jobs are plentiful and wages don’t fall behind inflation (although of course that can happen).
Beyond that, does increased labor necessarily lead to higher inflation? Perhaps companies could avoid raising prices by cutting profits or executive pay. Perhaps employees would be willing to forgo higher wages in exchange for a voice 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 that inflation would decrease the value of financial assets if they held more such 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. (Here in 2023, she reportedly expresses no interest in creative measures (such as minting a $1 trillion platinum coin to prevent the GOP-controlled Congress from driving the US government into a senseless, disastrous default.) Her memo is a compelling demonstration that there are people at the top who are trying to do this to the best of it. all possible worlds, but the best world they can imagine is still terrible.
The Treasury Department did not immediately respond to a request for comment from Yellen.