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The Boston Globe

Business

For Fed, it’s more complex than just jobless rate

It may be difficult to gauge how much slack is in the labor market.

Mark Makela/Reuters/File 2013

It may be difficult to gauge how much slack is in the labor market.

WASHINGTON — Good news may be bad news for the Federal Reserve as it considers when to begin scaling back its stimulus.

While unemployment dropped last month to 7.3 percent, the lowest since December 2008, that occurred because of contraction in the workforce, not because more people got jobs. Labor force participation — the share of working-age people holding a job or looking for one — stands at a 35-year low.

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That ‘‘poses a problem for the Fed,’’ said Roberto Perli, a former central bank official who is now a partner at Cornerstone Macro in Washington. ‘‘The unemployment rate is coming down faster than the Fed thought, but it’s not declining for the right reason.’’

The jobless rate is important because chairman Ben Bernanke and his Fed colleagues established it as the lodestar for policy. He expects the Fed to complete its asset-purchase program in the middle of next year, when unemployment is about 7 percent.

So long as inflation remains contained, the central bank has said it won’t even consider raising its benchmark interest rate until unemployment falls to 6.5 percent. The Fed cut its target for the overnight interbank rate effectively to zero in December 2008 and has held it at that record low.

A key question facing policy makers is how much of the decline in the participation rate is structural and long-lasting and how much is cyclical.

If the drop is mainly driven by demographics — aging baby boomers retiring — then the lower unemployment rate gives a true picture of the amount of slack in the labor market. If the contraction instead is caused by discouraged job-seekers giving up, the jobless rate doesn’t reflect the market’s true state.

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Since hitting a 26-year high of 10 percent in October 2009, the unemployment rate has fallen 2.7 percentage points, the Labor Department says. A big portion of that decline — 1.8 points — was because of a drop in labor force participation to 63.2 percent.

Central bank economists are divided over how much of the fall in the workforce is structural and thus not likely to be reversed.

‘‘There is disagreement within the system,’’ said Geoffrey Tootell, director of research at the Federal Reserve Bank of Boston.

A July paper by Boston Fed economists concluded that a significant portion of the drop since the start of the last recession results from demographic and other factors that probably will persist.

Jason Furman, chairman of the White House Council of Economic Advisers, defended President Obama’s record, saying private-sector payrolls have risen for 42 consecutive months.

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