Are we measuring inflation right?
The economy continues to add jobs and defy expectations.
In February, there were 275,000 new jobs, but the two previous months were revised lower, by 167,000. That means that the originally reported robust results in December and January look a little less strong than previously thought.
Still, average monthly job creation has been about 250,000 for the past 14 months, a solid showing.
The unemployment rate edged up to 3.9% as more people entered the labor force. Anything under 4% is low, but we are at the highest level in two years.
Additionally, average annual wages were up by 4.3%, a slight downshift from the previous month but a marked drop from the peak of 5.9% in March 2022.
Add in the fact that the quits rate has dropped back to its pre-pandemic level and you might wonder whether something is lurking in the distance ... is the labor market turning over or is it in transition from red-hot to lukewarm?
Jeffrey Roach, chief economist for LPL Financial, believes the latter. “Firms will likely slow the pace of hiring in the coming months and shrink payrolls as indicated in the recent layoff announcements,” but that doesn’t mean a jobs recession is afoot. Amid the transition, some firms are keeping staff but reducing hours, a form of “labor hoarding,” Roach says.
Where does this leave the Fed, as the Federal Open Market Committee’s March meeting rapidly approaches?
Fed Chair Jerome Powell says rates are unlikely to go any higher and that the central bank will begin to cut them this year. Most investors believe that the first cut will likely occur at the June meeting.
Powell and his colleagues will be poring over employment reports, as well as data on inflation, to guide their decision.
Prior to 2000, the central bank used the Consumer Price Index to dissect price movements. However, after extensive analysis, they found that the formula used for calculating the Personal Consumption Expenditure Index better captured people’s lived experiences.
CPI and PCE have been steadily declining since peaking in summer 2022. But a larger question is vexing some economists: What if both ways that we look at inflation are wrong?
A recent National Bureau of Economic Research working paper co-written by Marijn A. Bolhuis, Judd N.L. Cramer, Karl Oskar Schulz & Lawrence H. Summers wrestles with an answer.
They note that the labor market remains on firm footing and inflation is falling, and yet people are not exactly doing a happy dance. “This has confounded economists, who historically rely on these two variables to gauge how consumers feel about the economy.”
The paper’s thesis is that the culprit is borrowing costs, “which have grown at rates they had not reached in decades.”
Rising interest rates are not accounted for in either the CPI or the PCE. So if you are one of the millions of Americans carrying $1.13 trillion in credit card debt — and those payments have increased over the past two years — the inflation data do not capture the additional pressure that you are feeling.
The paper advances alternative measures of inflation that include borrowing costs, which they say can explain the gap in the economic data and consumer sentiment. Wonky, but interesting ... and the best explanation that I have seen to explain the disconnect between sentiment and economic data.