Workers Lose Ground to Inflation Despite Big Wage Gains

A historically tight labor market pushed up average hourly earnings by 4.6% in December from a year earlier, the Labor Department said this week, compared with a 6.5% annual inflation rate in the same period. Likewise, average hourly earnings rose 4.9% in December 2021 from a year earlier, compared with a 7% annual inflation rate. 

The result: Worker pay actually fell the past two years after accounting for inflation. Inflation-adjusted average hourly earnings—or real earnings—were down 1.7% in December 2022 from a year earlier, following a 2.1% decline in December 2021. 

In the long run, wage increases tend to move alongside inflation, economists say. But at times of economic upheaval, such as during the pandemic, the gap between the two can widen.

During the past two years, supply-chain disruptions related to the pandemic and higher energy costs linked to Russia’s invasion of Ukraine caused inflation to outpace wage gains. The effect of these supply factors is now fading, putting less pressure on consumer prices.

Both pay increases and inflation have been cooling since the middle of last year. But for the past two months inflation has been easing more than wages, giving paychecks a boost.

As a result, this could be the year that workers start seeing real wage gains again. 

“The question for 2023 is which moderates faster: inflation or wages,” said

Nela Richardson,

chief economist at

ADP,

a payroll processor.

Ordinarily, if paychecks aren’t keeping up with inflation, households would be forced to cut back on spending, which could send the economy into a downturn.

In this case, households benefited from huge amounts of pent-up savings, thanks to multiple rounds of federal stimulus and reduced spending during the early months of the pandemic. Families tapped into those savings last year to keep up their consumption.

Inflation-adjusted consumer spending either rose or held level every month of last year through November, according to the latest data available, indicating that consumers have yet to pull back.

Amy Hekman, of Grand Rapids, Mich., lost her job at an early-childhood nonprofit early in the pandemic. But higher unemployment insurance payments included in 2020 pandemic stimulus kept her afloat, she said. 

Her rent has gone up 30% over three years, “not including groceries, gas and all those other things that have increased as well,” she said, prompting her to think about a new, more lucrative career.

In 2021, she started taking on temporary work assignments in human resources, looking to make a career change. Now she is interviewing for full-time human-resources jobs that could allow her to better absorb higher prices.

“I am only looking for positions that would put me ahead,” she said.

In recent months, the savings cushion that Americans have built up has been slowly shrinking. Fed researchers estimated the total amount of excess savings fell to $1.7 trillion midway through 2022, from $2.3 trillion in the third quarter of 2021.

“As of now, the consumer is still holding up,” said Ms. Richardson. “This is really a race against the clock to restore inflation to more tolerable levels and then let the job market do what it does, which in a tight labor market is keep wages robust. That’s hopefully what happens this year.”

Fed officials have been worried that rising wages and high inflation could feed off each other, causing a spiral. So far, that hasn’t happened. Officials have said they want to see wage increases ease, which could take some pressure off inflation.

“It’s not that we don’t want wage increases,” Fed Chair

Jerome Powell

said this past month. “We want strong wage increases. We just want them to be at a level that’s consistent with 2% inflation.”

Right now, he added, wage gains are “well above” that level.

Wages tend to be “stickier” than inflation, said Credit Suisse economist Jeremy Schwartz. They don’t rise and fall as rapidly as consumer prices. That means wage gains could exceed inflation for a little while until they come back into rough alignment, he said.

Mr. Schwartz sees year-over-year wage increases falling to just above 4% by the end of 2023, while inflation weakens to around 3% on the year.

“In terms of not seeing such painful price increases and having your income stretch further, this could be a pretty good year for consumers,” he said.

Despite the possible return of real wage gains, workers could suffer if the economy tips into recession this year, as many economists expect. A recession would likely lead to layoffs and push up the unemployment rate from December’s 3.5%. Fed officials see the unemployment rate rising to 4.6% by the end of the year.

“If you retain a job you’ll be in better shape,” said

Kathy Bostjancic,

chief economist at Nationwide. “It’s just that there’s going to be an increased risk of layoffs for this year.”

Write to David Harrison at [email protected]

A historically tight labor market pushed up average hourly earnings by 4.6% in December from a year earlier, the Labor Department said this week, compared with a 6.5% annual inflation rate in the same period. Likewise, average hourly earnings rose 4.9% in December 2021 from a year earlier, compared with a 7% annual inflation rate. 

The result: Worker pay actually fell the past two years after accounting for inflation. Inflation-adjusted average hourly earnings—or real earnings—were down 1.7% in December 2022 from a year earlier, following a 2.1% decline in December 2021. 

In the long run, wage increases tend to move alongside inflation, economists say. But at times of economic upheaval, such as during the pandemic, the gap between the two can widen.

During the past two years, supply-chain disruptions related to the pandemic and higher energy costs linked to Russia’s invasion of Ukraine caused inflation to outpace wage gains. The effect of these supply factors is now fading, putting less pressure on consumer prices.

Both pay increases and inflation have been cooling since the middle of last year. But for the past two months inflation has been easing more than wages, giving paychecks a boost.

As a result, this could be the year that workers start seeing real wage gains again. 

“The question for 2023 is which moderates faster: inflation or wages,” said

Nela Richardson,

chief economist at

ADP,

a payroll processor.

Ordinarily, if paychecks aren’t keeping up with inflation, households would be forced to cut back on spending, which could send the economy into a downturn.

In this case, households benefited from huge amounts of pent-up savings, thanks to multiple rounds of federal stimulus and reduced spending during the early months of the pandemic. Families tapped into those savings last year to keep up their consumption.

Inflation-adjusted consumer spending either rose or held level every month of last year through November, according to the latest data available, indicating that consumers have yet to pull back.

Amy Hekman, of Grand Rapids, Mich., lost her job at an early-childhood nonprofit early in the pandemic. But higher unemployment insurance payments included in 2020 pandemic stimulus kept her afloat, she said. 

Her rent has gone up 30% over three years, “not including groceries, gas and all those other things that have increased as well,” she said, prompting her to think about a new, more lucrative career.

In 2021, she started taking on temporary work assignments in human resources, looking to make a career change. Now she is interviewing for full-time human-resources jobs that could allow her to better absorb higher prices.

“I am only looking for positions that would put me ahead,” she said.

In recent months, the savings cushion that Americans have built up has been slowly shrinking. Fed researchers estimated the total amount of excess savings fell to $1.7 trillion midway through 2022, from $2.3 trillion in the third quarter of 2021.

“As of now, the consumer is still holding up,” said Ms. Richardson. “This is really a race against the clock to restore inflation to more tolerable levels and then let the job market do what it does, which in a tight labor market is keep wages robust. That’s hopefully what happens this year.”

Fed officials have been worried that rising wages and high inflation could feed off each other, causing a spiral. So far, that hasn’t happened. Officials have said they want to see wage increases ease, which could take some pressure off inflation.

“It’s not that we don’t want wage increases,” Fed Chair

Jerome Powell

said this past month. “We want strong wage increases. We just want them to be at a level that’s consistent with 2% inflation.”

Right now, he added, wage gains are “well above” that level.

Wages tend to be “stickier” than inflation, said Credit Suisse economist Jeremy Schwartz. They don’t rise and fall as rapidly as consumer prices. That means wage gains could exceed inflation for a little while until they come back into rough alignment, he said.

Mr. Schwartz sees year-over-year wage increases falling to just above 4% by the end of 2023, while inflation weakens to around 3% on the year.

“In terms of not seeing such painful price increases and having your income stretch further, this could be a pretty good year for consumers,” he said.

Despite the possible return of real wage gains, workers could suffer if the economy tips into recession this year, as many economists expect. A recession would likely lead to layoffs and push up the unemployment rate from December’s 3.5%. Fed officials see the unemployment rate rising to 4.6% by the end of the year.

“If you retain a job you’ll be in better shape,” said

Kathy Bostjancic,

chief economist at Nationwide. “It’s just that there’s going to be an increased risk of layoffs for this year.”

Write to David Harrison at [email protected]