November 6, 2019

The Bureau of Labor Statistics indicated that hourly compensation rose 3.2% in the third quarter after jumping 4.8% in the second quarter and 9.1% in the first quarter.  This means that over the past year hourly compensation has climbed by a solid 4.5%.  That is the largest four-quarter increase in hourly compensation since the fourth quarter of 2012 when it was 5.4%.

But, as noted in the section on unit labor costs, what really matters to an employer is not how much they pay someone, but how much they pay them adjusted for the change in productivity.  If I pay you 3% more money, but you are 3% more productive, I really do not care.  I am getting 3% more output from you.  That increase in labor costs adjusted for the change in productivity is known as “unit labor costs”.  If I pay you 3.0% more money but you are no more productive, then my unit labor costs have risen 3% and I may need to raise prices to compensate for the additional labor cost.  So watch compensation, but focus even more closely on unit labor costs.

Currently, unit labor costs have risen 3.1% in the past year.  That increase consists of an increase of 4.5% in compensation partially offset by a 1.4% increase in productivity.  For the first time in a long while compensation has begun to climb.  Going forward, the tightness in the labor market should cause compensation to climb by 4.6% in 2019.  We expect productivity growth for the year to be 1.7%.  As a result, unit labor costs in 2019 should rise by 2.9%.  If that is correct, it will almost certainly push the inflation rate  higher in the months ahead.

Growth in hourly compensation is a good thing, but some of that increase can be offset by inflation.  So what we are also  interested in is real hourly compensation.  In the second quarter real compensation rose 1.4% after having risen 2.0% in the second quarter and 8.2% in the first quarter.   The second quarter increase consisted of a 3.2% increase in compensation partially offset by a 1.8% increase in inflation .  In the past year real compensation has risen 2.7%.  Looking ahead into 2020 we expect compensation to increase 4.6% as the tight labor market pushes wages higher, but that will be partially offset by a 2.3% increase in the inflation rate.  Thus, real compensation next year should increase by 2.3%.  That should be sufficient to allow the consumer to spend at a sustained 2.5% pace.

Stephen Slifer


Charleston, SC