Pro Perspectives 6/17/20

June 17, 2020

We’ve talked a lot about the perfect brew for an inflation run. 

First, we have a supply disruption that has been met with pent up demand.  That puts upward pressure on prices.  

Secondly, we have a massive policy response that far outweighs the losses in economic output, which means excess money is and will continue to be sloshing around the economy. 

And thirdly, we have the wage story

As I’ve said, the crisis-time wage increases won’t be temporary.  It will be very difficult to take back pay increases given to essential workers.  And for those in the lower wage range that have been collecting unemployment, they have been sent a message by the government (through the federal subsidy) that a living wage is higher than they’ve been earning.  

No surprise, people that have been earning more on unemployment than they were when they were working, are not finding it very enticing to go back to work.  And those that have been earning higher wages as essential workers, are finding those wages to be sticky, as employers fear losing them to an unemployment check. 

With the above in mind, Target announced today that they are raising minimum wage to $15 an hour.  That’s more than twice the national average. 

And the government is now looking at offering cash “back-to-work bonuses.”‘  

You can see in this chart from the NY Fed, the correlation between change in hourly compensation (wages) and cpi (inflation). It’s tight, and the trend has been lower.  But that’s changing. 

Wages are going higher.  And it's going to feed into the inflation brew.  
And this comes at a time when the Fed has been lulled to sleep by the lack of meaningful inflation over the past two decades.   Just this morning, in his Q&A with Congress, Jay Powell reiterated the Fed's belief that "disinflationary forces are here to stay for a while."  He went on to say, "we are living in an era of continued downward pressure on inflation."  Add to this, the Fed has already said that they plan to let the economy run hot — allow for sustained recovery — before they will start raising rates from the current level of zero. 

This sets up for a situation where the Fed will get behind on inflation, and at some point, will be chasing inflation.