Much of the talk about risks to the economic outlook has been linked to the prospect of higher inflation following more than $5 trillion in federal spending to address the pandemic. But what is often missing in that discussion is the link between price volatility and wages.
It is difficult to make the case that inflation will increase because of a recent rise in the cost of inputs used at earlier stages of production and because of the 1.4% year-over-year increase in the price of services.
What is not showing up in the economic data is wage push inflation—or an increase in inflation as a result of higher wages paid to workers.
Hourly wages in manufacturing increased to $23.20 per hour in February, a 3.1% increase from the $22.50 before the pandemic.
Consumer prices rose by 1.7% over the same period. Right now, U.S. private average hourly earnings are up 5.15% per annum. But this is something of a mirage as the millions of lower-income workers who have lost their jobs or taken pay cuts—the real unemployment rate is 10.1%—have distorted the data, creating the impression of wage pressures.
Alternatively, the employment cost index—the measure used by the central bank to make policy—is up only 2.5%, which does not denote serious risk around wage push inflation.
Yes, there is a close relationship between wage growth and inflation. But that’s not to say there is causality. Instead, the cost of labor and the cost of products move higher when there is higher demand, and move lower when demand is decreasing. The causality is that wages and inflation are responding to increases and decreases in growth.
And yes, wages and inflation increased during the heyday of unions from 1960 to 1980, but that was also the period of elevated gains in labor productivity, rapid economic growth, and wage increases tied to union contracts and widespread consumerism.
The decline in wages from 1980 was arguably because of automation, the de-industrialization of traditional American industry to low-wage centers, and the moderation of growth and productivity after the go-go 1960s.
This was occurring at the same time that advances in monetary policy were squeezing inflation out of the global economy.
The takeaway
Manufacturing plays a much smaller role in the economy today than it did from 1965 to 1985 when it was the dominant portion of the economy and wage push inflation was a clear and present policy challenge. That is simply not the case today.
For more information on how the coronavirus pandemic is affecting midsize businesses, please visit the RSM Coronavirus Resource Center.
