When Wages Just Won’t Grow

I imagine that central bankers at Martin Place are scratching their heads right now.

Traditional data-modelling isn’t working…

The Aussie economy isn’t behaving the way it should…

Australians everywhere seem to be struggling…

But economic data says everything is dandy.

In reality, the metrics central bankers use aren’t telling the same story anymore. At least not like they used to. In all likelihood, they never really ‘worked’.

If you reconfigure how data is calculated long enough, eventually you’ll get a picture showing a straight line — everything going up.

But all those economic models aren’t telling the same story anymore.

The Reserve Bank of Australia (RBA) and major central banks around the world swear by something called the ‘Phillips curve’.

The Phillips curve is a visual representation of the inverse relationship between unemployment and inflation. When unemployment falls, inflation should rise.

However, that’s not happening.

Official data from the Australian Bureau of Statistics (ABS) says our unemployment rate sits at a five-year low of 5.4%. Yet the consumer price index (CPI) is running at 1.8%. And it could fall lower in January.

No surprise then that the CPI basket is getting a makeover to reflect changes in how Australians spend money. For instance, it will allow for a little more weight to travel and eating out and less towards tobacco.

For the past three decades, the Phillips curve has been as reliable to central bankers as a hammer is to a carpenter.

Yet for the last 12 months or so, this inverse relationship between the two metrics hasn’t been working. Leading UBS chief economist George Tharenou to say that the Phillips curve is close to broken.

Perhaps it’s not the data being used that’s the problem, though. Maybe the problem lies in the methodology. The ABS defines unemployment as:

‘The ABS classifies a person as unemployed, if when surveyed, they have been actively looking for work in the four weeks up to the end of the reference week and if they were available for work in the reference week.

The ABS classifies a person as employed if, when surveyed, a person worked for one or more hour during the reference week for pay, profit, commission or payment in kind, or even if a person worked for one hour or more without pay in a family business or on a farm.

It’s interesting how the ABS believes that if you work in the family business for free, you’re employed.

Yet, over at research firm Roy Morgan, they have a different idea of what qualifies as employment:

The Roy Morgan Unemployment estimate is obtained by surveying an Australia-wide cross section by face-to-face interviews. A person is classified as unemployed if they are looking for work, no matter when. The results are not seasonally adjusted and provide an accurate measure of monthly unemployment estimates in Australia.

That’s it. No complicated free labour. If you don’t receive a wage but you’d like to, Roy Morgan says you don’t have a job.

Knowing this, it makes sense that Roy Morgan puts the Australian unemployment rate at a much higher 9.5%. Almost double the official statistics used and analysed by the RBA.

The methodology between the two goes some way to explaining why the Phillips curve isn’t functioning like it used to.

What the Roy Morgan data tells us is that there are many more people not working in Australia than the RBA would have us believe. 

This leads the RBA to its second problem:

Using the RBA’s contorted data, a ‘tight labour market’ — one with near-full employment — should show something known as ‘wage push inflation’. That’s where the cost of goods and services rise as a result of growing wages. In other words, inflation goes up because more people have jobs.

Here’s where it gets sticky for the RBA: Their metrics are saying that almost all Aussies that want work have jobs. That suggests wages should be growing. But they aren’t.

Wage growth in Australia has distinctly broken away from following the employment trend.

Research firm UBS put together the chart below, which shows the widening disparity between employment and wage growth.

Wage Price Index - Record Low - 23-11-17

Source: Sydney Morning Herald
[Click to enlarge]

Over the past five years, average wage growth has fallen from 3% per annum to 1%. Meaning each pay rise is smaller than the one before. Even a 3.3% minimum wage increase in July this year couldn’t boost the wage price index. That’s noteworthy, as around 20% of Aussies work for a minimum wage.

The RBA has all the data, which makes this a real headscratcher. But it doesn’t fit into what they think they know about the economy. In the November meeting minutes, the RBA noted:

The outlook for inflation would be influenced by the persistence of heightened competitive pressures, the outlook for wage growth and the speed with which wage costs might flow through to higher prices.

Members noted, however, that there was considerable uncertainty around when and how quickly wage pressures might emerge and about how much these would add to inflationary pressure.

This is where the broken modelling comes in. Central bankers have spent years twisting data to tell the economic fairy tale they want. But the biggest factor to wages and inflation turns out to be technological disruption. As the RBA notes: ‘…the possibility that globalisation and technology were leading wage growth to be less responsive to changes in the demand for labour, which could continue for a while.

Economic textbooks of the last 50 years are now defunct. Market-managing theories written half a century ago don’t apply to this modern economy. Traditional roles are being outed. And how a country operates and employs its people is facing enormous disruption.

Old central banking datasets aren’t matching up with the new economy. Central banks will have to reset how they look at information before they make policy decisions.

Kind regards,

Shae Russell,
Editor, Markets & Money

Shae Russell started out in financial markets more than a decade ago. Working with a derivative brokering firm, she helped clients understand derivative markets, as well as teaching them the basics of technical analysis. Since joining Port Phillip Publishing eight years ago, Shae has worked across a number of publications. She holds the record for the highest-returning stock recommendation, in which a microcap stock returned over 1,200% in six months. Ask her about it, and she won’t stop yapping on. For the past two years, Shae has worked alongside Jim Rickards as his Australian analyst, translating global macro trends for Aussie investors, and how they can take advantage of these trends. Drawing on her extensive experience, Shae is the lead editor of Markets & Money. Each day, Shae looks at broad macro trends developing around the world, combining them with her distaste for central banks and irrational love of all things bullion.

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