U.S Labor Market Strengthens
Particularly interesting is the increase in average hourly earnings. Wages have been growing only slowly in America the two most recent years and adjusted for inflation they have in fact fallen. They may still have fallen in January as energy prices rebounded, but if they continue to increase by 6 to 7 cents per months as they have done for the last two months, wage increases will start to outpace inflation.
Higher wage increases could mean three different things (or a combinations of two or all three things): 1) Higher productivity 2) Lower profits 3) Higher inflation.
The first is clearly good, the second more ambiguous and the third clearly bad. So which is it? That is hard to say since we don't have all the data available, but it is likely a mostly the third and to a smaller extent the second. As production growth shows no signs of accelerating while growth in hours worked accelerates , productivity growth is in fact falling. Fourth quarter earnings reports showed continued high profitability except in the Detroit car industry, but it is possible that first quarter earnings are weaker and/or that smaller businesses are doing worse than big business. The lower unemployment rate should mean stronger bargaining power for most workers and thus halt the relative shift in the distribution of income from labor to capital. Meanwhile, the sharp increase in commodity prices will likely help push up inflation, especially if pay increases also accelerates.
The boom in commodity prices have helped sharply boost mining activities. While total hours worked in the private sector rose 2.6% between January 2005 and January 2006, hours worked in the sector "Natural resources and mining" rose a full 9.1%. Average hourly earnings also increased faster between January 2005 and January 2006 in that sector, 3.9% versus 3.3% for all private workers.
The higher inflation will likely mean that the Fed funds rate will be raised to at least 5%, maybe even higher. That in turn could mean that the dollar will do somewhat better than I previously thought, provided at least that the current labor market strength continues.