The Fed’s effort to stimulate “good” inflation hasn’t amounted to much, and that could make the difference in whether or not it raises interest rates next month.
Even though the U.S. labor market has seen robust job creation and the unemployment rate has fallen to a post-recession low (at 5.3%, it’s close to the 5% to 5.2% range that most Fed officials consider consistent with full employment), there’s no denying that stagnant wage growth, which is slowing down the growth of income, consumer spending, and the recovery, remains the fly in the economic ointment.
Consider this: Before the last recession, average hourly wages were rising at around 3.5% per year. Today, they’re growing at an anemic 2%—a rate that hasn’t budged since late 2009.
Then there’s this: Just last week, the Employment Cost Index (ECI), the broadest measure of labor costs, showed that the wages and benefits that companies, governments, and nonprofits pay their employees rose by just 0.2% in the April to June period. This was the slowest pace in at least three decades. “It confused and shocked” some market watchers, says Ozlem Yaylaci, U.S. economist at IHS Global Insight. After all, strong job gains should lead to strong wage gains, and companies should pay more to recruit and retain the workers they need.
This “in-your-face” evidence that vigorous hiring isn’t lifting our paychecks also reflects a sharp dropoff in bonus and incentive pay (particularly in the private sector). And it reiterates that after years of easing, the Fed’s $4.5 trillion effort to stimulate “good” inflation—particularly in terms of wage increases—hasn’t amounted to much. “There’s only so much that monetary policy can do to influence the robustness of the labor market,” says Victor Calanog, chief economist and senior vice president at Reis.
Regardless, weak wage growth suggests that the labor market isn’t healthy enough to withstand higher borrowing costs, and thus the Fed could refrain from raising interest rates in September, says Irene Tung, senior policy researcher at the National Employment Law Project. “It’s a wake-up call that the Fed needs to stay the course on monetary policy.”
Will it? Look for more clues when the more-important-than-ever July jobs report is released this Friday. “If it’s a strong report showing job growth of over 200,000—something we’ve seen, on average, for the past 12 months—I think that will tip the Fed toward a September hike,” says Mark Zandi, chief economist of Moody’s Analytics. “A 200-plus pace is what’s needed to absorb the slack in the market, and it’s the slack that’s been the primary pressure on wage growth.”