Yves here. We were remiss in not writing up a recent and important Fed paper, which effectively argues against the central bank policies under way, of considerably increasing interest rates to tackle inflation. The assumption behind that is the current inflation is driven by wage increase, which isn’t the case despite the oft-mentioned tightness of the labor market. Prime age labor force participation is still below where it was before Covid. That means workers have gone missing….because they have long Covid? because they are shunning high-Covid risk establishments? Because some two income families with kids worked out during the lockdowns that they need only one or one and one-half incomes?
The Fed paper by David Ratner and Jae Sim describes how the declining labor bargaining power has changed inflation dynamics, but the models that the Fed and its peers like to use don’t acknowledge that.
Note that it is not