Labor Slack or Not, Wage Inflation is Rising

The debate about whether inflation will be transitory or not oftentimes mentions the slack in the labor market. Slack in the labor market means that there are still a high number of people that are unemployed – that need to be employed – before wages really start rising. And wage inflation usually starts at the beginning of a rise in broader inflation.

The challenge with looking at the slack in the labor market is that the labor market may not return to its pre-pandemic levels. A great number of people greater than 65 are no longer in the labor force – translation: they have retired. This Covid thing was enough for them to say, that’s it, I’m done, time to enjoy the rest of my life because as this past year has shown – you never know when your time will come.

Wage inflation caused by retirement boom

Looking at it another way – and with slightly different age breakdowns – the labor force participation rate for people 55 and over has tanked – and based on what I mentioned above, may not ever get back to the way it was. The participation rate for 25-54 year olds has a long way to go also – in order to get back to ‘full employment’.

Low labor force participation rate might  prematurely cause wage inflation

But then why are so many businesses offering crazy incentives for people to work? You can blame the stimulus checks and the expanded unemployment benefits that for some would be workers, is more than they would make by taking on a job. Other reasons include lack of childcare that will allow the primary caretaker to go back to work. Or even a general fear of being exposed to the virus. We could argue about which one of those reasons, or any other, is the biggest disincentive for people to go back to work, but eventually those obstacles will no longer exist.

The question then is whether wages will be much higher then than they are now. Already, many employers are increasing their minimum wage to $15 and Bank of America increased their minimum wage to $25 per hour. That’s wage inflation – and we aren’t yet at full employment.

I too believed that inflation might spike then return to more normal levels, but now I’m a bit concerned that it could stick for a bit longer. If it does, the Fed will have to raise rates sooner than they currently anticipate, and the market could sell off. But before the Fed can do that it will start paring back it’s purchases of fixed income securities – and will very likely announce it’s intentions well in advance.

But will the Fed be behind the curve and be unable to get inflation under control quickly? Only time will tell, but we are positioning for that very scenario.