Exciting News From US Central Bank Fed

Ten years ago, it was normal that the handling of goods in a warehouse in the US was primarily handled by human staff. Of course, there were also logistic robots that handled work functions at the largest and most advanced companies such as Amazon. But since then, the development has taken-off and logistic robots now master many tasks in large warehouses.

One can have the impression that robots have now taken-over all functions of what can be described as “intra-logistics” in a warehouse. Though it is not quite so far yet, but in some warehouses, the roles have flipped between robots and human beings. Functions that include many single movements are yet too complex to compute, so a robot can perform the task. But even here, robot technology has taken-over the control of man. In very efficient warehouses, it is an administrative robot that via a small in-ear headphone, informs the employee about the next work task. It is so wisely organised that if the employee is pausing somewhere unexpected on the route, the robot immediately asks what the employee is doing.

A jump in the development of the warehouse technology will be when artificial intelligence can bring logistic robots to the next level, where robots can take-over the more complex functions, a step that comes faster than we think.

Now, one can ask, what does this story have to do with the US central bank’s (Fed) monetary policy? Pretty much, actually.

The US central bank is clearly preparing a significant change on how it believes the labour market is affecting inflation. I expect it to be a fundamental change in the central bank’s perception of the economy, and thus also how it will conduct its future monetary policy. For example; the assessment of how high maximum employment can be without having an inflationary impact on the economy. It may be simpler to express it as how low the unemployment rate can go without wage inflation occurring and subsequently leading to higher inflation in the broader economy.

It is a question that ongoingly engages any central bank in countries with a free market economy. However, especially since the global financial crisis 10 years ago, macroeconomic models have been less synchronous with the economic reality. A situation that makes it more difficult for a central bank to pursue the optimal monetary policy.

In the communication from Fed during the last decade, it is in my opinion, that they are obviously challenged. The strong development in the labour market combined with the non-existent wage inflation has given reason to many speculations, also deep in the central bank.

The work with re-evaluating the economic models that describe the labour market and wage inflation was officially launched a couple of weeks ago at a working conference organised by Fed’s branch in Chicago. How long such a process takes, nobody knows, though I regard it as a formalisation of long ongoing considerations within Fed, i.e. it’s not a work that starts from scratch.

However, I have no doubt that it leads to changes in Fed’s economic models, which will affect Fed’s monetary policy, and therefore financial markets will now already respond.

As graphic one shows, the American unemployment is now at 3.6 pct., but in the past two years, unemployment has actually been so low, that the Fed believes employment is above its maximum, as they express it. For the same reason, the central bank has been waiting during that period for clearer signs of inflation in the US economy, but so far in vain. Graphic two shows where a part of the pressure has gone. The decline in the job participation rate stopped in 2014, which means that more people stayed in the labour market than the demographic development had indicated.

But another explanation is found back in the warehouse, as robot technology now constitutes a regular work resource, which is also increasingly the case with administrative robots. In my opinion, the development within administrative robots still lacks the last development before they become really attractive. Though artificial intelligence will give the administrative robots an entirely different dimension. They truly represent another new labour resource, and of course, take the heat out of a hot labour market.

Whether the Fed’s makeover of their economic models coincides with the new bias towards lower interest rates, and a pressure for the same from President Trump, can only be guessed about.

I am, however, quite convinced that a new economic model will, to a greater extent, include technological development/artificial intelligence as a substitute for the manual labour force, and also better opportunities for upgrading qualifications of the labour force.

These components contribute to higher productivity and generates a more valuable labour force. This will work as a counterbalance to the classic inflationary pressures that economies have previously experienced when employment begins to reach its maximum. I expect that the updated models give Fed arguments to keep interest rates at a lower level than the historical average has been. Though, I still argue that there are a number of reasons why Fed should maintain its current interest rate, or even raise it a few more times.

But the financial markets are looking in a different direction now and therefore we have adjusted our expectations in our “conviction model”.

For example, do I now expect a lower probability that the dollar will gain further in strength. And apparently, the US 10-year yield is still on the move lower.

My major consideration is how much the Fed is changing its monetary policy, because the European Central Bank is ready to open-up for monetary easing again, thus increasing the possibility of a global extreme quantitative monetary policy re-entering and dominating financial markets again.

Graphic 1: The US unemployment rate in percent since 1970:

Graphic 2: The US Labour force participation rate in percent since 1970

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