A consistent debate in economic circles in recent years has waged around the “tightness” in the labor market. That is, if labor has too much negotiating power they can dictate prices and that might put upward pressure on inflation. Measuring labor market tightness isn’t an exact science, however and there are many ways to gauge the tightness. My preferred measure is wage trends and employee quit rates. In short, when labor has a lot of negotiating power they transfer jobs in favor of higher wages. This forces employers to compete to keep labor and is usually consistent with an economy that is hot, perhaps too hot.
The trends in these two components of the labor market have become increasingly clear in recent months and they do not show tightening trends. In fact, they show an economy that is moderating right back to its meager pre-Covid growth trends.
We’ll get a fresh reading on hourly earnings this Friday, but the trend in the last year has been clear – wages are slowing consistently. The Fed is still uncomfortable with the level of wage growth, but it’s trending in the right direction. Wages aren’t always the best metric though because, like rents, labor contracts are often negotiated annually and don’t update in real-time. This is why quit rates often lead wage trends.
Today’s JOLTS data showed a large drop in the quit rate. Quits had been trending down for some time so the weakness has been apparent for well over a year, but the interesting aspect in this data is that it’s now below the pre-Covid levels. Given how tight the Fed is, I would fully expect these trends to gain more traction, not less.
But it’s not necessarily bad news for now. After all, the pre-Covid economy was a pretty good one, albeit a meager growth economy. And perhaps more important in this data, we’re not seeing a meaningful increase in layoffs. At least not yet. So labor has less negotiating power, but firms also aren’t laying people off. It all looks a bit Goldilocks so far.1 Which is surprising in many ways. But perhaps more surprising is the Fed’s persistent worries that the 1970s are coming back. We don’t see it. And so it leaves our view largely unchanged – the muddle through economy is here to stay, but the Fed is still at risk of overtightening if they let these trends become too entrenched.
1 – This might not be the best analogy for the economy because the original Goldilocks was burned by the bears.