The American economy created 2.23 million jobs in 2004, the largest annual gain since 1999 and a number that nearly reverses the 2.4 million jobs lost between 2001 and 2003. Although last year’s gains were smaller than the comparable number of jobs created at this stage of previous economic recoveries, economists said the labor market appears to be creating enough jobs to keep unemployment at low levels.

According to the U.S. Labor Department’s monthly employment report, businesses added a net 157,000 jobs in December, after an upwardly revised 137,000 increase a month earlier. The December gain was less than expected, but was still viewed as representing solid growth. The unemployment rate held steady at 5.4%.

Last year “wasn’t as good as some were hoping for at the start of the year, but [2.23 million] jobs in 2004 is respectable,” said Nigel Gault, an economist at Global Insight, an economic forecasting firm in Lexington, Mass. “We dug ourselves into a deep hole, and we’re only now getting back to where we were at the beginning of the Bush administration.”

Most economists believe the labor market needs to create 125,000 jobs a month to keep unemployment from rising. Last year, monthly payroll grew by an average of 186,000 jobs a month, although growth was choppy with job creation exceeding 300,000 some months and barely rising other months. This compares with an average loss of 5,000 jobs a month in 2003. “Businesses are creating enough jobs to keep the economy moving forward, but not enough to reduce the number of unemployed and underemployed people,” said Mark Zandi, chief economist at Economy.com, a Pennsylvania forecasting and consulting firm.

The employment report is unlikely to alter the Federal Reserve’s monetary policy. Minutes to the Fed’s December meeting released last week underlined that the Fed believes the economic expansion is entrenched, so its main preoccupation in the near future will be containing inflation. It is expected to raise short-term rates a quarter of a percentage point at each of its next three meetings from their current 2.25%.

Adding to their wariness on inflation, Fed officials are beginning to reexamine their long-held assumption that an ample supply of unemployed workers and new labor-market entrants would ensure plenty of competition for the jobs being created, which would keep wage and inflation pressure under wraps. Officials have felt the drop in the unemployment rate from 6.3% in June 2003 overstated the improvement in the job market because many people had simply stopped looking for work, and thus were no longer counted as unemployed. The share of the working-age population either working or looking for work has remained stuck at 66% for the last year, down from its prerecession peak of 67%.

But in a presentation earlier this month at the American Economics Association in Philadelphia, Fed Vice Chairman Roger Ferguson noted that very few of the people who have dropped out of the labor force in the past few years say they have done so because they can’t find work. Rather, most have done so to attend school, because they are ill or disabled, or because they retired. “It is an open question how quickly, if at all,” that exodus “will be reversed.”

Mr. Ferguson also said the bulk of the job loss earlier this decade appears to have been caused by industrial restructuring, which will make it harder for those laid off to find new work. He said the companies hit hardest in the downturn appeared to see their hardship as permanent because they didn’t try to hold on to their workers, as companies facing a temporary setback typically will. He said this could depress the supply of readily available workers since “workers displaced by restructuring must either search longer to find a job appropriate for their skills, or seek retraining.”

If indeed there is less readily available labor than previously thought, Mr. Ferguson said, “the amount of economic slack could be very small, and thus expansive monetary policy could lead to a pickup in inflationary pressures.” But that need not be the case, he added: “A substantial pool of unused labor may remain in the labor market, and an overly restrictive monetary policy could” slow the return to full employment.

“The evidence is more ambiguous than one would like,” Mr. Ferguson said. Still, Fed officials appear to believe there remains a lot of slack in the labor market, even if it is less than they thought. The main evidence is that wage growth remains subdued. Hourly wages rose just 0.1% in December from November, though they were up 2.7% from a year earlier.

For the year, average hourly earnings were $15.86 in December, up slightly from $15.45 in December 2003, which shows that year-to-year hourly earnings aren’t keeping pace with inflation. The average workweek was reported as 33.8 hours in December, up 0.1 hour from November. Typically, employers add to the workweek right before they start hiring, so some economists see increases in this category as a positive sign.

“When the economy was strong, we saw fairly strong hiring, but businesses were also very quick to react to any slowdown in demand by ramping down how quickly they hire workers,” said Steve Wood, chief economist at Insight Economics in Danville, Calif.

The largest job gains in 2004 occurred in professional and business services with 546,000 jobs added. The vibrant health-care sector added 342,000 jobs, while construction added 258,000 jobs, thanks to a still thriving housing market and last year’s hurricane-rebuilding effort. State and local governments added 186,000 in 2004, but mainly in the area of education as more teachers are being hired. The manufacturing sector added 76,000 new jobs, although this gain hardly makes up for the 3.3 million jobs lost in this industry between 1998 and 2003.

Net job losses during 2004 occurred in telecommunications, down 28,000 jobs as companies sent more jobs overseas. The U.S. federal government lost 14,000 jobs in 2004 as more jobs are contracted out to private contractors and as the government continues to cut costs.

While economists expect the labor market to continue to improve in 2005, they believe that will happen slowly and that the employment picture of 2005 will look very similar to last year’s – businesses will continue to hire, but erratically and with caution. Intense competitive pressure from China and India, as well as from domestic outlets, keeps employers concerned about profit margins.