The U.S. economy added the largest number of jobs in 15 years in 2014, yet a surprising five-cent drop in average hourly earnings in December raises questions over whether a tightening labor market will ever translate into more money in the pockets of ordinary Americans.
In theory, a tightening market should lead firms to hike wages to hold on to or attract workers.
That relationship, however, has broken down in the recoveries from the past three U.S. recessions and has been especially pronounced in the tepid recovery from the 2007-2009 financial crisis, according to research from the Federal Reserve of San Francisco published this week.
Workers in industries that have the least flexibility to cut pay in downturns are at the heart of today’s tepid wage growth.
“In response, businesses hold back wage increases and wait for inflation and productivity growth to bring wages closer to their desired level. Since it takes some time to fully exhaust the pool of wage cuts, wage growth remains low even as the economy expands and the unemployment rate declines,” said San Francisco Fed researchers Mary Daly and Bart Hobijn.
For example, in construction, one of the industries Daly and Hobijn pointed to as having a rigid wage structure, they said earnings grew just 0.6 percent from mid-2010—when unemployment in the sector hit 20.9 percent—to the third quarter of 2014 when the sector’s jobless rate stood at 9.5 percent.
That trend was evident again in Friday’s jobs and wages data.
Construction added a healthy 48,000 jobs in December, a third more than in the prior two months, yet wages fell by 0.3 percent for a gain of 1.8 percent on the year.
By contrast, the finance, insurance and real estate sector, where wages saw more downward pressure in the recession, has seen wage growth 0.4 percentage point higher than the last time its unemployment rate was so low, according to the San Francisco research.
The finance sector saw wages fall 0.2 percent in December, but posted a 2.1 percent gain for 2014 as a whole.
That poses a conundrum for the Fed, which is eager to raise interest rates in order to get off the zero lower bound, where it has been stuck since December 2008.
The U.S. central bank isn’t alone in this. Britain, which along with the United States has staged a strong economic recovery, has struggled to deliver wage growth to match its strong jobs growth.
Fed Chair Janet Yellen has frequently sounded the alarm over the slow pace of wage growth, even as she has stressed that the bank is likely to hike rates this year.
“The soft wage data are likely to raise concerns on the [Fed’s policy] committee about the link between labor market slack and wage inflation, which many on the committee view as an important factor in helping return inflation to the Fed’s 2 percent target,” Barclays economist Michael Gapen said.
Earnings grew just 1.7 percent last year, the softest increase for any 12-month period since October 2012.
That points to an incomplete recovery, according to the Economic Policy Institute, a Washington-based liberal think tank.
“Until nominal wages are rising by 3.5 to 4 percent, there is no threat that price inflation will begin to significantly exceed the Fed’s 2 percent inflation target,” it said after Friday’s jobs report.
“And it will take wage growth of at least 3.5 to 4 percent for workers to begin to reap the benefits of economic growth—and to achieve a genuine recovery from the Great Recession.”
(Reporting by David Chance; Editing by Paul Simao)