Wage growth is outpacing inflation. High productivity is the key to sustaining that.
Wage growth is outpacing inflation. High productivity is the key to sustaining that.
In addition to the Federal Reserve’s preferred measure of inflation, Thursday brought another key indicator the Fed keeps a close watch on: the employment cost index.
It showed that in the third quarter, it was almost 4% more expensive to employ a worker than it was 12 months prior to that. That’s slower growth than in the previous quarter, but still around 2 percentage points ahead of inflation.
Wednesday we heard that the 2% gap between wages and inflation could stick around, like it did back in the ’60s. The secret sauce to making that happen? Worker productivity.
According to the Labor Department, productivity has grown in six of the last seven quarters. One reason: Unemployment is low and more people are working. Which means?
“They have time to move from lower-productivity jobs to higher-paying, higher-productivity jobs, and they get time to train up in their new occupations,” said Preston Mui, senior economist with the research group Employ America.
He said the government has also invested a lot in American manufacturing. Plus, supply chains have improved.
So, Mui said, workers are more efficient. “We’re seeing an uptick in the growth rate of productivity, which means that we’re seeing a fall in the growth rate of cost.”
That means businesses have fewer reasons to raise prices and bosses can pay their workers more.
“This is a basic, I would say, a basic building block about how we think about sustainable wages over time,” said Tim Duy, chief U.S. economist at SGH Macro Advisors.
And it’s how the Federal Reserve thinks about sustainable wage growth, he said. This month, Christopher Waller, a member of the Fed’s board of governors, said wage growth could sit comfortably at around 4%, or even more, because productivity keeps growing.
“As long as productivity is high enough, then it will be sustainable. And it will not create higher inflation,” Duy said.
But it’s not a given that productivity will keep growing. “Productivity is very volatile on a quarter-to-quarter, or even year-to-year, basis,” said Sarah House, a senior economist at Wells Fargo.
She said there are plenty of reasons to believe that productivity will stay strong. A big one is that the tight labor market of the last several years prompted employers to invest in upgrades.
“New software that makes workers more efficient. Also, increased spending on research and development that can help that next big innovation that can boost productivity,” House said.
That means the current pace of compensation growth, at around 4%, is looking pretty sustainable, she said.
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