Neel Kashkari, the president of the Federal Reserve Bank of Minneapolis, explains his third dissent against interest-rate hikes this year, citing weak labor-force participation and low inflation.

Kashkari worries the Fed's interest-rate hikes are actively contributing to a decline in US inflation expectations that could make the central bank's job harder in the next downturn.

"The job market is not as tight as the 4.1% unemployment rate suggests," Kashkari writes in a blog explaining his dissent.



For many Federal Reserve officials, the lack of wage growth in a labor market that has improved steadily and brought the unemployment rate to a historically low 4.1% remains a mystery.

Not so much for Neel Kashkari, the president of the Minneapolis Fed who has dissented against all three of the Fed's interest-rate increases this year, including last week's rise to a range of 1.25% to 1.50%.

"Why aren't wages picking up?" Kashkari wrote in a blog post explaining his latest dissent. "In my view, the two most likely explanations are that the job market is not as tight as the 4.1% unemployment rate suggests and that people's expectations for future inflation have fallen, which can become self-fulfilling."

Kashkari says low labor-force participation and other underlying pockets of weakness are still leaving workers in too precarious a situation to bargain for higher wages.

"One measure of the labor force — the participation rate for workers between 25 and 54 years old, typically called 'prime age' — suggests that there could be more than a million workers still on the sidelines," Kashkari said.

"We don't know how many will return, but with wage growth still well below its precrisis pace, it's easy to argue that we might not really be at full employment," he said. "If wage growth climbs, I expect to see more people come into the labor force."

Kashkari is similarly concerned about low inflation and inflation expectations, which he fears points to the same kind of underlying weakness he sees in the labor market.

"People's beliefs about future inflation are enormously important to where inflation is actually headed," he added. "If workers believe inflation will be low in the future, they demand smaller wage increases from their employers."

US inflation has been below the Fed's 2% target for most of this economic recovery, despite seven years of zero interest rates and several rounds of bond purchases aimed at stimulating economic growth. Wage growth has also lagged, with average hourly earnings climbing a modest 2.5% in the year to November.

"While high inflation is clearly bad for society, excessively low inflation can limit the Fed's ability to respond to future recessions, potentially making them longer and more damaging," Kashkari said. "Market-based measures suggest that US inflation expectations have fallen well below precrisis levels."

Kashkari remains skeptical of the argument made by some of his colleagues that a recent decline in inflation is temporary.

"We don't know that for certain, and the longer it persists, the more tenuous the transitory factors story becomes," he said.