Although many businesses are advertising bonuses and above-minimum wages, data don’t show a broad surge in wages. Here, a help-wanted sign in Queens, N.Y., on a recent day.
Spencer Platt/Getty ImagesAmerican businesses are posting far more job openings than ever before, workers are quitting at the highest rate on record, and wages for nonsupervisory employees at restaurants, bars, and hotels are currently rising at an annualized rate of more than 20%. That’s why, even though nearly 10 million Americans remain underemployed, many people—from former Treasury Secretary Larry Summers to Republican Senate leader Mitch McConnell—are worrying that a hot job market could lead to accelerating consumer price inflation.
While it’s certainly possible that workers flush with cash might bid up the prices of goods and services if consumer demand persistently exceeds what businesses can produce, there are two reasons why investors should be wary before betting on a sustained period of out-of-control inflation.
First, despite a few anecdotes here and there, worker pay isn’t actually rising at a faster pace than before the pandemic.
The average employed American earned about $30.33 an hour, up from $28.51 before the pandemic. That’s an annualized growth rate of 5.1%, up from a prepandemic average growth rate of 3% a year. But the surge isn’t because workers got big raises. While some did, the bigger explanation is that most of the people who lost their jobs weren’t paid much to begin with. That automatically lifted the reported average wage of anyone who still had a job, even if most individual workers weren’t any better off.
Just look at the wage growth tracker published by the Federal Reserve Bank of Atlanta, which looks at the individual changes in wages of a large sample of workers. The median change in wages tends to track the share of workers ages 25-54 with a job, although the pace of pay increases has consistently been about 3% to 4% since the beginning of 2015. From the end of 2018 until the pandemic hit, wages had been rising at the faster end of that range. Since then, pay growth has decelerated to just over 3%.
There’s also the Employment Cost Index, published by the Bureau of Labor Statistics, which accounts for changes in the mix of workers as well as changes in benefits and bonuses paid. This measure of pay is up just 2.6% over the past 12 months—slightly slower than before the pandemic, and substantially slower than in the years before the financial crisis. Companies’ labor costs could rise meaningfully in the future, but they haven’t done so yet.
Second, even if worker pay does accelerate in the future, the link between wages and prices is too weak to be a reliable harbinger of faster inflation.
For one thing, the mix of things Americans buy is different from the mix of industries in which they work and earn money. About one out of every seven consumer dollars is spent on groceries or food services, but less than one out of every 20 dollars earned in employee pay goes to people who work in agriculture, food manufacturing, grocery stores, and restaurants. Less than 7% of America’s total wage and benefits bill is paid to workers in construction and real estate, but more than 16% of spending goes to housing. Meanwhile, a large chunk of America’s total employment income comes from sectors that aren’t consumer-facing at all, such as the government, law, investment banking, B2B software development, advertising, and management consulting.
More generally, while labor is the biggest cost for the economy as a whole, wages are only one expense for many individual businesses alongside rent, capital equipment, raw materials, components, professional services, and electricity. When companies cut those other costs through efficiency improvements and productivity growth, they gain the space to pay their workers more without having to raise prices. That’s how wage growth accelerated throughout the 1990s even as inflation slowed down.
The flip side is that price spikes can happen even when wages are flat if businesses feel compelled to pass along higher input costs to consumers. Car-rental companies didn’t lift their prices by 62% since last February because they ran out of workers, but because they had liquidated their fleets in the spring and were unprepared for the snapback in demand. Those same companies are also desperately bidding on used vehicles at auctions, further pushing up inflation in excess of most workers’ wage gains.
Then there’s the flexibility of profit margins. Companies worried about retaining workers may eat into their earnings if they lack pricing power, while businesses with market dominance may raise costs for consumers without passing on any gains to their workers. The bargaining power of labor isn’t constant across time or industries, which further weakens the link between wages and prices.
There is one way that accelerating wages could lead to faster inflation, and that’s if the boost in incomes leads to a sustained surge in consumer demand that pushes businesses to raise prices. Something like that started in the mid-1960s—and it lasted until the deep downturn of the early 1980s crushed both wages and inflation.
The good news is that’s unlikely to happen again, in part because any uptick in wage growth after the pandemic, if it happens at all, is going to coincide with a sharp tightening of fiscal policy that should limit the total increase in consumer spending power. There won’t be another round of $2,000 checks going out again soon, and enhanced unemployment benefits are set to turn off nationwide in a few months.
The Hutchins Center at Brookings estimates that changes in government spending and taxes boosted the U.S. economy’s growth rate by six percentage points in the past four quarters. Fiscal policy is projected to subtract more than two percentage points each year in 2022 and 2023 as support is withdrawn.
No wonder broker-dealers and other investment professionals are unconcerned about the risk of excessive inflation over the next few years—a sentiment that’s also evident in market pricing of inflation derivatives. Instead of worrying about accelerating wage growth, investors may want to focus on what could happen if worker pay fails to speed up in the years ahead.
Write to Matthew C. Klein at matthew.klein@barrons.com
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