CAMS View from the Corner
February 11, 2025
If you automatically default to a quick mental calculus of any market-oriented backdrop and view it through the lens of supply relative to its demand, you will automatically turn toward a probable general direction of prices. Details can fill in after this quick mental assessment.
For example, how long has there been a somewhat consistent news release of X number of chickens being euthanized or having been lost en masse in a large fire of a large egg-producing operation?
As each passing storyline surfaces, a quick mental calculus offers supply is being challenged while markers for demand reduction are not presenting themselves, which in turn offers an expected downstream increase in prices. A challenged chicken supply while demand remains steady for eggs equals a logical conclusion of higher prices.
As an important side note, the cure for high prices is always the same—high prices. What!?
High prices offer the double-barreled action of human reaction.
That is, the supply side is highly incentivized to pursue increasing supply (think raising chickens en masse) as rapidly as possible in order to garner the much higher market prices. Meanwhile, on the demand side, people are incentivized to curtail some or all of their consumption of eggs (or any product under consideration) in light of the high prices.
This morphs into, given some time, lower prices as notable increases in supply meet the newly developed reduction in demand. More supply meeting lower demand turns toward lower prices. And on and on the story goes for supply relative to demand for products and services as the timeline unfolds.
Pardon our opening topic here because this edition is not actually about chickens or eggs. It is actually about wage growth rates in the broad employment market and the Federal Reserve.
We use this analogous chicken-and-egg storyline because for some time now it has been a mainstream socioeconomic topic, and through this, most can recognize it, having lived it.
With this edition we are offering an initial observation perch dedicated to the employment market while we curiously ask whether we will be seeing a similar experience to that of the chickens and eggs storyline. Think higher prices in the employment market, which is to say, higher wage growth rates.
Reindustrialization a.k.a. On-Shoring
Pick your moniker for the expected process of more production of goods and services entering the U.S. economic landscape. Running with a general downstream expectation of an increased level of domestic production, we would expect demand pressures to build relative to supply. That is, demand for labor may be notably exceeding the supply of labor.
The logical follow-on from this is an expectation that wage growth rates will rise.
Reverting back to our previously offered action of human reaction, when high prices enter the scene, we would expect supply (think workers) to increase in the employment market through the lens of “chasing” higher prices. Again, in this case, the higher prices are wage rates.
Upon seeing X wage rate for X endeavor, X person(s) can find it attractive to the point of choosing to reenter the labor force in order to capture the higher wages.
So as demand for labor rises, the expectation of rising wage rates increases, and as they increase, the higher levels catch the attention and desire of previously sidelined wage earners. Through this, the supply of labor increases.
As the supply increases, it plays a role in containing a potential runaway increase in wage rates. This potential always exists whenever a scenario develops where demand may far outstrip supply.
And on and on this goes, just as in the supply/demand dynamics of any market of goods and services.
Price Inflation and the Fed
Through the above reindustrialization view, a crucial aspect of the downstream storyline will be the price inflation backdrop.
If wage growth rates rise notably, as well as consistently, this in and of itself will not offer the full view of whether wages are truly rising, in particular to the point of garnering the attention and desires of sidelined wage earners. We offer “truly” through the lens of inflation-adjusted wage growth rates.
As a quick example, last Friday the monthly employment report was released by the Bureau of Labor Statistics (BLS), which includes the average hourly earnings of all employees in the private sector.
The wage growth rate came in at 4.1% compared to one year ago. At the same time, using the Consumer Price Index (CPI) as an inflation gauge, the most recent release (as of this writing) noted CPI grew by 2.9% compared to one year ago.
With this, the wage growth rate, when adjusted for price inflation, reflects a positive 1.2%. While positive, sadly, 1% will not win the economic day for the everyday household.
If we thought experiment this and punch in a hypothetical wage growth rate that increases to say, 5% and price inflation decreases to the Fed’s 2% target, we then see the inflation-adjusted wage growth rate triple from current levels. This would be a tremendous achievement when viewing this measure through recent decades.
Conversely, if said wage growth rates were to rise to our arbitrary 5% level but price inflation increases from the current 3% (rounded) to say 4%; this leaves us exactly where we are today as well as in recent times. In this case our inflation-adjusted wage growth rate would remain in the 1% range.
Here though, the Fed would be freaking out; well, at least we hope they would be freaking out. In this backdrop, we would be seeing one of the worst of scenarios.
That is, running away wage growth rates, upward running price inflation growth rates, and very importantly, when combining the two, little change in the inflation-adjusted wage growth rate would offer little change in the economic landscape for the everyday household. Incentives for sidelined wage earners to reenter the labor force would be comparatively muted.
This then would reinforce wage growth rates to move even higher as well as price inflation and would elicit a Fed fear of a wage push inflation landscape.
The bottom line here is there would be no progress on inflation-adjusted wages, and importantly, little incentive to garner the attention of additional labor supply to meet the increased demands for labor via U.S. reindustrialization.
When wage rates are rising, the Fed counts on increases in the labor force to come onto the scene. They know this will play a role in containing wage growth rates and through this, will reduce their concerns/fears of a potential wage push inflation scenario developing.
The End Result is not a Slam Dunk
Reindustrialization of the U.S. will bring with it a wealth of observation points to monitor, which will inform as to whether the everyday household is truly improving.
There are several tributaries that can be opened up when considering this big picture perspective relative to reindustrialization. For our part, we will be paying close attention to the interactions of labor supply, wage growth rates, and price inflation.
If we can see wage growth rates remain at current levels and go even higher while price inflation retreats, the tremendous increase in inflation-adjusted wages would certainly incentivize sidelined wage earners to reenter the labor supply, thereby offsetting a potential runaway wage push concern surfacing from the Fed.
This would offer the Fed and the bond market some comfort which could lead to interest rates across the spectrum to move lower. In addition, this scenario would be a tremendous positive for the everyday household.
This scenario is not a slam dunk.
As we have shared ad nauseam for years now, price inflation is a central player in the big picture economic mix.
If we see wages growing notably but price inflation remaining high, this will raise tremendous concerns from the Fed. Importantly, adding to their concerns will be the bond market itself. Bond market participants will not like that backdrop and can be expected to raise rates themselves by selling off bonds if they see such a scenario unfolding.
As an important aside, capital investment plays a significant role in this as well.
The deployment of new machinery and technology adds up to increased productivity within the economic system as it aids in increasing the production of individuals within the labor force. This will play an important role in aiding the reduction in price inflation against a backdrop of expected rising wages.
This is its own tributary and will be important to observe as this expected reindustrialization process rolls out.
As shared, there is much to this reindustrialization storyline. We will share these various tributaries and their interactions as we move down the timeline. Inflation-adjusted wage growth rates will be a key marker to watch as this expected reindustrialization takes hold.
I wish you well…
Ken Reinhart
Director, Market Research & Portfolio Analysis
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