The U.S. Labor Market and Inflation

indicators are confusing

Jason Furman writes (WSJ),

Economists use labor market slack to help predict inflation. Typically they look at the unemployment rate, but using the ratio of job openings to unemployment to measure labor market slack offers a clearer picture.

Timothy Taylor has a long post on job vacancies and core inflation.

no matter how you look at it, job vacancies are really high right now. I don’t think this phenomenon is yet well-understood. But workers are quitting jobs at high rates, often to take an alternative preferred job, and the employment/population ratio for US adults has not yet returned to pre-pandemic levels.

Both Furman and Taylor refer to a paper by Laurence Ball and others.

Another indicator of inflationary conditions is unit labor costs.

Unit labor costs in the nonfarm business sector increased 10.2 percent in the second quarter of 2022, reflecting a 5.7-percent increase in hourly compensation and a 4.1-percent decrease in productivity. Unit labor costs increased 9.3 percent over the last four quarters. (See tables A1 and 2.) This is the largest four-quarter increase in this measure since a 10.6-percent increase in the first quarter of 1982.

It is difficult to sort out economic indicators these days. The employment data from the payroll survey describe an economy that is still booming. The GDP data for the first two quarters say that the economy is in a recession. I trust the payroll survey much more, and in fact I would bet that years from now, when the GDP data have been massaged and revised, the numbers will show an increase, not the small decline that is in the latest release. Note also that Gross Domestic Income, which is supposed to measure the same economic activity as GDP, is now much higher than GDP.

Signs of weakness: a few big companies have announced layoffs, as they try to trim costs in order to boost short-term earnings; the IPO market has cratered, which means that venture capitalists will be much more conservative now than they were a few years ago. With the interest rate on the thirty-year fixed-rate mortgage close to 6 percent, my guess is that the housing market is running on fumes now. If any young families are buying these days, I assume it’s with cash from their rich parents.

Signs of strength: help-wanted signs everywhere; stories about “shortages” of teachers, nurses, and other service workers. In southern Virginia just after Labor Day, we saw a huge sign in front of a Chick-Fil-A saying “$16 an hour, plus benefits: health insurance, scholarships, retirement.” My guess is that the sign is still there—I doubt that they have filled their vacancies.

I look at the vacancies and the unit labor cost data, and my inference is that right now a lot of patterns of specialization and trade are not sustainable. Businesses are assuming that they can be profitable by finding workers at yesterday’s wages. But at tomorrow’s wages, many of them will have to fold.

Another inference is that we still have too much paper wealth in the economy. As I write this, the S&P 500 is still close to 4000, which I think is high relative to nominal GDP. To bring that ratio down, either NGDP has to rise more, meaning more inflation, or stock market wealth has to fall.