Inflation and Declining Real Wages Through May: The Never-Ending Story?

The Bureau of Labor Statistics (BLS) just released the Consumer Price Index for May 2022 and the price level rose 1% last month.  Prices are up 4.1% in just the first five months of 2022, which translate to an annual rate of 10.0%.  Prices are up 8.5% in the last year, from May 2021 to May 2022.  For the period from January 2021 to May 2022, prices are up 11.2%.  
We are far above the Fed’s inflation target of 2%. The Fed’s insistence on maintaining low interest rates until it actually saw inflation materialize, and then its claim that the observed increase in inflation would be temporary or ‘transitory’ implied that no response was needed. Then, the Fed’s acknowledgement that inflation was not temporary but its continual dawdling to actually take any action has led to this rather spectacular failure to meet its target.  They are not even in the ballpark.

Those on fixed incomes are being severely harmed by this inflation – retired Texas teachers come to mind as a prime example.  But workers too are being harmed, as their wages have not kept up with inflation.  The BLS reported last week on average hourly earnings of all employees in the private sector.  Hourly earnings increased 6.8% from January 2021 to May 2022.  In past years this would have been a healthy increase in wages, but not now.  Prices have risen by 11.2% over this same period.  In terms of purchasing power, wages have steadily fallen since January 2021.  Moreover, wage growth so far in 2022 has actually been slower than in 2021, while inflation in 2022 has been higher than last year.  In 2022, prices have increased more than twice as fast as wages.  This means that real wages have declined at an even faster pace in 2022 than in 2021.  In fact, real wages are now lower than they were back in February 2020, prior to the pandemic.

Inflation is hammering those on fixed incomes and is harming workers.  Is it any puzzle that the public is unhappy with the state of the economy?

It bears emphasis that all of this is occurring in a tight labor market.  The BLS also reported an unemployment rate for May that remained at 3.6%.  This is an extraordinarily low unemployment rate.  Other than in January and February 2020, immediately prior to the pandemic shutdowns, the last time the U.S. experienced such a low unemployment rate was over half a century ago, in December 1969. 

It is unusual to have a tight labor market and falling real wages.  If the labor market stays tight, wages will eventually have to rise faster than prices in order to restore the purchasing power of wages.  Firms paying those higher wages will raise prices to cover the higher cost of doing business.  This is the wage-price spiral.  Such a phenomenon will further complicate efforts to bring down the inflation rate. 

At least the U.S. Treasury might be happy.  The federal government owes many trillions of dollars of nominally denominated debt, and it can now pay back those obligations with dollars whose purchasing power has shrunk by 11% in the last seventeen months.  That’s quite a gain for the Treasury, and quite a loss to bondholders.  Treasury tax collections are higher as well - the rise in nominal income and the healthy state of the labor market has led to large increases in nominal tax collections.  Meanwhile, the general public has been victimized by a Federal Reserve that seems not to have taken its commitment to price stability seriously.


Posted: June 13, 2022 by Dennis W. Jansen