Lack of wage growth is anything but textbook

Lack of wage growth is anything but textbook
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The latest U.S. jobs report neatly highlights one of the main economic challenges new Federal Reserve Chairman Jerome Powell faces when he takes over from Janet Yellen in February: how to react to a non-inflationary growth acceleration.

Four things stood out to me in the report:

First, the report corrected the initial estimate of the damage done by Hurricanes Harvey and Irma. Instead of suffering the first decline in seven years, payroll growth was revised up to 18,000 for September, leaving intact the now 85-month streak of consecutive monthly employment gains. That’s not bad.


Second, the 261,000 payroll increase in October went a long way to restoring the 170,000 to 175,000 average we had before the hurricanes. Yet, this will still be the third year in a row job growth has moderated. The best year in this business cycle, with average monthly payroll increases of 250,000, was 2014.

Since then, the pace of job growth has been trending lower. The reason isn’t a lack of demand for workers. The average number of job openings has increased by 30 percent in the same time span. It’s that we are running out of workers to continue to drive the expansion. This is a challenge for the Fed.

Third is the lack of labor force growth. One criticism I’ve heard a lot in recent years is that the unemployment rate, which fell to 4.1 percent in October, is misleading because it doesn’t reflect unemployed workers who left the labor force because they were discouraged about finding a new job.

But if that were true, wouldn’t the high number of job openings pull them back in? I think the strong correlation of the unemployment rate to the Conference Board’s consumer confidence survey data should strengthen our trust in the health of the labor market.

Last month, the number of survey respondents who claimed it is hard to find a job right now fell to the lowest level since June 2001.

Here is another challenge for the Fed. If the low unemployment rate is indeed a good measure of the available labor supply, or the lack thereof, then it is likely that U.S. GDP growth will not be able to sustain the acceleration that is expected for next year and might be more vulnerable to higher interest rates.

Fourth is the lack the of wage growth. Textbook economics would argue that growing evidence of tightening labor supply will lead to faster wage growth, necessitating higher interest rates. But we don’t live in a textbook, and the lack of wage growth persists.

In September, there seemed to be an inkling of evidence that wages were finally starting to rise at a faster pace, when average hourly earnings were reported to have increased at an annual rate of 2.9 percent. The October report reversed that improvement, pulling earnings growth back to 2.4 percent, the slowest rate in the last 17 months.

Here, of course, is the Fed’s greatest challenge: How to set monetary policy when companies simply ignore the tightness of labor supply and leave job openings unfilled, forgoing potential growth opportunities for the sake of keeping wages stable.

In the textbook economy, wages are the variable that balances supply and demand. In today’s real world, it seems wages are seen as fixed and supply is the variable that determines how much demand is being satisfied.

Maybe it’s not so bad that President Trump picked a non-economist to head the Fed. These days, studying the textbook doesn’t seem to help much.  

Markus Schomer, CFA, is the chief economist for PineBridge Investments, a global asset manager with experience in emerging and developed markets.