A quick note to say that, according to our AHE model, the “true” pace of the Average Hourly Earnings (AHE) is going sideways. We show that our model suggests that AHE growth corrected for “residual calendarity”, “slack” and sectoral composition is going sideways (at 4% ar), consistent with the resiliance of the labor market. The model also suggests a strong reading in December and a solid Q4 ECI figure. Implications for monetary policy is straightforward and reinforces our message of the last few days: we do not expect the Fed to validate the number of cuts priced in for 2024.
(A PPT containing all US wage charts has been updated and posted here)
A preliminary note
Average Hourly Earnings rose 35bps in November, a bit above our expectations. The reading is not distorted neither by “residual calendarity”, nor by seasonal adjustment issues. The figure does not appear to be driven by “residual calendarity” which was neutral in November. Also, there are no visible distortions from seasonal adjustment issues as in previous months (see here). Rather, the solid November number is “genuine”, even more than it might look like – see next paragraph.
Note: if the reader is unfamiliar with the notion of “residual calendarity” in AHE space, (s)he can refer to this BLS page, and to our previous notes here, here, and here.
The AHE model
The “true” AHE pace is around 4% (ar), going sideways. Figure 1 shows an update of our AHE monthly model. As a reminder, this model explains monthly AHE growth rates using recent past, a variable capturing “residual seasonality”, a variable capturing economic “slack”, and sectoral employment shares. In November (latest point on the chart) the fitted value of the model is nearly identical to the published AHE growth rate. In other words, our model is able to fully explain what happened last month. Having said that, the important information in Figure 1 is that the fitted values (blue line) are going sideways and are above the published numbers in recent months. The natural question is “why is the model above published figures in recent months?” “What drives the gap?”. The next paragraph explains it.
Sectoral shifts have been biasing down the published AHE level. Figure 2 plots the level of AHE in each sector (10 in total) vs the change in employment share in the last 3 months. We remind the reader that AHE does not correct for shifts in sectoral shares as opposed to the ECI. Figure 2 shows that -on net- sectors with low level of AHE saw an increase in employment (share), while sectors with a high level of AHE saw the opposite. Specifically, employment shares increased in “Leisure and hospitality” and “Private Education and Health Services” and decreased in “Trade, Transportation and Utilities” and “Professional & Business Services”. Once accounting for these shifts (blue line in Figure 1), the model reveals that the “true” AHE growth rate remains close to 4% (ar) and it is going roughly sideways.
(Note: if the reader is wondering why published AHE has rebounded in November, according to the model it is due to the negative autocorrelation of the series)
Figure 1. AHE MoM (sa) and UnderlyingInflation AHE model fitted values.
Note: the figure shows published MoM (sa) AHE growth rates (orange line) and UnderlyingInflation AHE model fitted values (blue line). The figure excludes the first 6 months of Covid for scaling issues (although they are included in the model estimation).
Figure 2. Sectoral employment shares (3m delta) and AHE levels.
Note: the figure shows the correlation between the level of AHE in November in 10 sectors and the 3-month delta of their sectoral employment shares.
What to expect in December (and in Q4 ECI)
Solid December AHE, solid Q4 ECI. According to the model, AHE MoM (sa) growth in December should be in the proximity of 36-37bps assuming that the sectoral shares will stay constant. For this reason, we expect the Q4 ECI figure around 4% (ar), showing limited or no deceleration.
Conclusion and implications for the Fed
Wage growth remains very solid and above the pace consistent with the 2% target. In fact, current wage growth is more consistent with 3% than 2% in consumers prices space. The analysis contained in this note reinforces the case for a prudent Fed until there will be evidence we can go back to 2%.