Commentaries

PMC Weekly Review - July 14, 2017

A Macro View: Who Wants a Raise?

As the economic expansion enters its ninth year, investors have grown accustomed to the Federal Reserve’s (Fed) “wait-andsee” approach to monetary policy and its well-telegraphed path towards interest rate and balance sheet normalization. Amidst the slew of economic data the Fed takes into account are the important non-farm payroll numbers and their ability to translate into wage growth. In June, the economy added 222,000 jobs, beating expectations for a 179,000 increase, and continued a record 81-month stretch in which the US has added jobs, absorbing roughly 16 million workers since the start of the recovery. These are numbers the Fed was likely hoping for, keeping the unemployment rate at 4.4%. This was a slight increase from May’s 16-year low in the unemployment rate, but was a result of more people entering the workforce, which can be viewed as a positive for the economy. However, one nagging problem persists: stagnant wage growth.

Lagging wage growth is more than a problem for individual workers, who see their purchasing power erode as their expenses grow faster than their earnings. The US, as a consumer-centric economy, relies on ever-increasing consumer spending. History tells us that as the jobless rate decreases, firms’ need for workers and resultant labor shortages increase bargaining power for workers, ultimately resulting in higher wages. Past economic expansions consistently show wage growth above 3.0%, as seen in the 2000s, prior to the recession, 3.2% growth during the 1990s, and 3.3% growth in the 1980s. For years after the 2008 crisis, growth in average hourly earnings stayed low, hovering around 2.0% year over year. The average hourly earnings growth for private sector workers reported in June 2017 was a disappointing 2.5% year over year. What is so different about this expansion that wage growth is significantly lower than past cycles, despite low unemployment?

Economists point to a variety of factors that may help explain why the US finds itself in its current dilemma. To begin, a globalized economy appears to have taken its toll on wage growth, exerting downward pressure on what workers can earn everywhere. Wealthier countries have lost jobs to low-wage economies, particularly in lower-skilled labor roles, with countries like China having absorbed these jobs. Additionally, although job numbers are rising, the type of jobs offered in the post-recession economy are different from those lost in the recession. Many jobs lost then, particularly in the construction and manufacturing sectors, have not returned, and, to a large extent, have been replaced by lower-paid service jobs. Economists have termed this the “decomposition effect.” New employees, especially low-wage workers, are hired for less than the average wage rate, compared to peers, bringing down the average across all workers as a result. Further, retiring Baby Boomers are leaving behind high-paid positions that are either not backfilled or are filled at a lower rate of pay. Additionally, some economists contend many firms were not able to lower wages as much as they wanted or needed to during and after the financial crisis. If true, this could have resulted in a slower pace of wage increases to make up for past costs. Other research from a 2014 National Bureau of Economic Research study also points to a slowing in labor mobility, as a traditional source of wage growth resulted from changing jobs across firms or sectors in an effort to “climb the corporate ladder.” 

Although no single reason stands out as the lone culprit keeping wage growth stubbornly tepid, there is something amiss in the labor market, a reminder from the Great Recession. Many measures depict a US economy on a path towards higher economic growth and monetary normalization, but structural shifts in the domestic labor market appear to have resulted in below-trend wage growth, with a large number of frustrated workers wondering when their next meaningful raise will come.

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Sources: Bloomberg and Business Insider 

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Ryan Knisely
Associate Investment Analyst

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PMC Weekly Review - July 14, 2017