Failure of wages to reflect jobs growth a global puzzle
From York to Montreal and Osaka to Seattle, it is a pretty good time to be looking for a job as a member of the labour force in many developed countries.
Unemployment rates in Group of 7 (G7) nations such as Canada, the United States, Britain, Japan and Germany are nearing or even slightly below what officials describe as a maxed-out jobs market.
But wage gains worldwide have been only creeping along. For developed economies, that means the powerful cycle of higher compensation fuelling stronger demand and then business investment and, eventually, a little more pricing power, has proved elusive.
“It is a mystery,” said Mr Torsten Slok, chief international economist at Deutsche Bank. “We’re barely seeing any wage growth.”
Solving this puzzle matters, since it casts uncertainty over the health of the world’s labour markets and the direction of monetary policy. Central banks, which are supposed to tune their policy rates to inflation, could end up tightening too fast too soon if they conclude employment gains mean inflation is right around the corner. Or, if they focus on the weak wage gains, they may end up leaving rates too low for too long, fuelling asset bubbles.
US Federal Reserve officials conclude their meeting overnight (this morning, Singapore time) and markets are pricing in a quarter-point rate hike as part of a gradual normalisation of rates from crisis lows. The Bank of England, the Bank of Japan and the Swiss National Bank release decisions today.
Until now, policy-makers have blamed the paucity of wage gains on existing economic slack. But that explanation is starting to look weak.
In the US, the number of workers unwillingly stuck in part-time jobs is back at 2008 lows. In Japan, where policy-makers want higher inflation, labour shortages in service industries such as lodging and elderly care are not resulting in higher pay. In Canada, the jobless rate has dropped to a post-recession low, but wages have been growing at the slowest pace in more than a decade and are not keeping up with inflation.
Even in the UK, where pay gains picked up last year, there has been a recent slowdown, which may partly be due to uncertainty since it voted to leave the European Union. Evidence points to real wage gains shrinking as inflation accelerates.
In Germany, where the economy is growing at a rate above the long-term trend, the lack of robust wage gains may be linked to the long-standing restraint of labour unions, mindful of the export-oriented country’s hyper-competitive attitude to global trade. Germany’s Federal Statistical Office reported in February that inflation-adjusted wages grew by 1.8 per cent in 2016, the slowest pace in three years. It is all the more puzzling since Germany is running with the lowest unemployment rate since reunification.
And as Germany is the euro area’s largest economy, it is a matter of concern for European Central Bank president Mario Draghi, who called wages a “key point” in the assessment of the economy last week. In the central bank’s pursuit of less than 2 per cent inflation over the medium term, wage growth has to return.
“It’s the linchpin of a self-sustained increase in inflation,” said Mr Draghi on March 9. “That is the key variable that we should look at.”
And it is not just the G7. In an interview with Bloomberg News on Monday in Sydney, Australian Treasurer Scott Morrison said stagnant wage growth is his nation’s biggest economic problem.
“Wage earnings of Australians have been flat,” said Mr Morrison. “It’s been a while since they’ve had a good pay rise.”
A deeper reason for slow pay raises may be the malaise in global productivity, defined as the amount of output produced in a period of work. Productivity gains can come from a variety of places and are that magical mix of mechanisation, technology, human ingenuity and constant innovation in the way services are delivered and goods are produced.
In the US, year-over-year productivity rose 1 per cent in 2016, compared with 2.4 per cent in 2007, the last year of expansion before the financial crisis.
“I hate to say it, but we may be in a new normal for wage growth,” said Mr Omair Sharif, senior US economist at Societe Generale in New York. “Until you get productivity moving higher, it may be hard to get nominal wage growth above 3 per cent.”
When productivity is rising, companies can push more goods and services out the door at a lower cost. Some of the increasing profits may accrue to labour in the best of cases, lifting compensation. Low productivity means that companies have to hire more people to get the job done as GDP expands. That helps underpin demand as more consumers are getting a paycheck. But compensation is not rising much.
US payrolls increased by 235,000 jobs last month and the unemployment rate stood at 4.7 per cent, near the 4.8 per cent Fed estimate of a rate that represents maximum use of labour resources. Average hourly earnings rose 2.8 per cent in nominal terms for the 12-month period, similar to gains in the past year. The consumer price index rose 2.5 per cent in January, so in real terms wage increases are low.
The same explanation may apply to Japan, where industries experiencing labour shortages are also areas of low productivity. Hotels, restaurants and retirement homes all need more staff but are struggling to find new efficiencies.
In manufacturing, robotics holds scope for productivity but this will not necessarily translate to higher wages for blue-collar workers, whose jobs can also be moved overseas.
Another possible explanation is that the Great Recession left a deep scar on both labour and industry, and set expectations for compensation on a lower trajectory.
“Inflation expectations have become exceedingly well anchored and, related to that, wage demands have been very tempered,” said Mr Nathan Sheets, a visiting fellow at the Peterson Institute for International Economics in Washington. “It is a legacy of the low-inflation, disinflationary and even deflationary environment we have had for the past couple of years.”
It is very much the case in Japan, where workers and labour unions are more focused on preserving jobs than pursuing pay gains.
While the unemployment rate is down to just 3 per cent, a level last seen in the mid 1990s, average monthly wages in Japan adjusted for inflation fell for four straight years through 2015. Data from the Labour Ministry points to an increase of just 0.7 per cent last year.
Central bankers could be pleased with some aspects of the current Goldilocks environment. Unemployment is low and inflation is low at a time of growing employment.
However, current conditions also belie low expectations about the future, and Japan is an example of how difficult it can be to shock an economy into a more dynamic regime.
ABOUT THE AUTHORS:
Craig Torres, Brett Miller, and Jeff Black are journalists at Bloomberg, where they cover the Federal Reserve, Japan-Korea economic news and European economics respectively.