US wage growth points to an economy still in recovery

Susan Walsh/AP

Please don’t be distracted by the drop in the unemployment rate on Friday to 4.6 percent—which, incidentally, fell largely because of a drop in labor force participation.

The most accurate measure of labor market slack (and thus, the most accurate indicator of when the Federal Reserve should raise interest rates) continues to be nominal wage growth, and all signs point to an economy continuing to recover.

Wage growth should be much faster in a full employment economy, according to the Fed’s stated targets for inflation, which, last I checked, remains at 2 percent and long-term trend productivity growth, which has been running about 1.5 percent. (The recent slowdown in productivity could arguably be because of the low cost of labor and, therefore, reduced incentives to invest in capital and would likely rebound as labor markets get genuinely tight and start pushing wage-growth up.) Taken together, we are looking at target wage growth above 3.5 percent.

But year-over-year nominal wage growth came in at 2.5 percent last month. The figure below shows some indications of a pickup in the last few months, but no one should be counting their chickens until they are hatched. At 2.5 percent, growth noticeably slowed compared to last month’s high water mark of this recovery at 2.8 percent, or the previous month’s 2.7 percent. Yes, wage growth is now faster than it was in the first 5+ years of the recovery, when it averaged 2.0 percent. But, it doesn’t reflect full employment wage growth, or even the wage growth we experienced before the Great Recession hit – by no means a full employment economy.

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