In our estimates, the “true” pace of AHE growth is above the published numbers for April. In April, AHE grew 20bps, below expectations and the forecast of our model. However, according to the model, most of the downward surprise (7bps out of 10) is due to composition shifts of the labor force and hours worked across sectors, which are very hard to predict and our model only sees ex-post. Indeed, correcting for these effects, the model estimates a 0.3% MoM (sa) growth in April.
Overall, the model continues to estimate that the “true” pace of AHE growth is currently around 3.5%+ (ar), which is more consistent with price inflation remaining above target going forward. AHE is gently disinflating, but wages are persistent and it might take another several months (and some additional cooling of the labor market) before wage growth can be consistent with the 2% target of the Fed.
Note: the model expects a solid (33bps) MoM AHE reading in May. See below for details.
(A PPT containing all US wage charts has been updated and posted here)
The facts
Average Hourly Earnings rose 20bps in April, below consensus and our expectation. In April, the MoM (sa) reading of AHE was softer than the model expected. However, most of the downward surprise is due to composition effects (which the model only sees ex-post), as the share of workers in industries with AHE level below the average increased. Net of this effect, the model estimates a 0.3% MoM (sa) in April. The contribution of “residual calendarity” is strong and negative, as expected.
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 continues to be around 3.5%+ (ar). 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 April (latest point on the chart), the fitted value of the model is a bit above the published AHE growth rate, as the model corrects for the negative contribution of sectoral shifts (and calendar effects).
We continue to take the blue line as the “true” signal, given it has provided good guidance so far. The overall message has not changed: the fitted values (blue line) are gently disinflating, although it might take another several months to be fully consistent with target.
(The reader can see the 3m/3m and the MA(3) of the MoM of the fitted values here).
Figure 1. AHE MoM (sa) and UnderlyingInflation AHE model fitted values.
Note: the figure shows published MoM (sa) AHE growth rates (red 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).
Why sectoral shifts are crucial. We often get the following question: how important are sectoral employment shifts for AHE growth? Figure 2 clarifies why it is very important to control, somehow, for sectoral employment shifts. Figure 2 shows the published AHE YoY growth rate (the yellow line), and the share of employment in industries with AHE level above the aggregate mean. Figure 2 is not meant to say that industry shifts can explain everything. Rather, it is just a reminder not to take at face value the MoM (or YoY) of AHE when it pops up on your Bloomberg terminal.
Figure 2. YoY of AHE and Sectoral Employment Share.
What to expect in May
Solid AHE in May. According to the model, AHE MoM (sa) growth in May is expected at 0.33%. Please, remember that the model assumes no shift in employment shares across sectors and constant aggregate hours (we cannot forecast the weather..). The reason of the expected rebound is due to the negative serial correlation of the series and the fact that the residual seasonality effect is not expected negative in May. Conditional on this forecast, the “true” AHE growth rate (blue line in Figure 1) would continue to be around 3.5%+.