Thursday, September 20 , 2018, 4:19 pm | Fair 72º

 
 
 

Craig Allen: Economic Growth Is All About Wages

Although we witnessed the first glimpse of wage improvement last week, American workers are not seeing consistent pay increases. Until this changes, economic growth will remain lackluster, and as a result, earnings for U.S. companies will lag current stock valuations.

The United States is adding jobs at the fastest pace since the end of the Great Recession, with the economy adding 248,000 jobs in September, and another strong month of jobs growth expected in the October report, which is to be released Friday. Economists project 243,000 new jobs were added in October, which would be the eighth month this year that we have seen at least 200,000 new jobs added for the U.S. economy.

The employment cost index (ECI), which measures U.S. labor costs, rose sharply again in the third quarter to the best back-to-back gain since 2008. The ECI rose 0.7 percent in the third quarter, which was above economists’ expectations of a 0.5 percent gain. Wages climbed by 0.8 percent while benefits rose 0.6 percent. The 0.7 percent increase for the third quarter matches the gain for the second.

Over the past 12 months, employment costs have risen 2.2 percent, up from 2 percent in the prior quarter and 1.9 percent a year earlier, which is the fastest increase in a 12-month period in three years. Before the consecutive 0.7 percent gains in the second and third quarters, increases in the ECI had ranged from 0.3 percent to 0.5 percent for 11 quarters in a row.

The ECI tracks how much companies, governments and nonprofit institutions pay their employees in wages and benefits. Wages account for about 70 percent of employment costs and benefits roughly 30 percent.

The sluggish pace of consumer spending, which fell in September for the first month in eight could explain why the United States is only growing at a post-Great Recession annual average of 2.2 percent.

Although wages appear to finally be improving, consumers may still not get out and spend if they are concerned about the safety of their jobs, and/or the future prospects for the economy. Economic cycles tend to last about five years on average, and we are approaching the six-year anniversary of the start to the current recovery, which began in June 2009.

Another key concern is underemployment and the exclusion of those no longer receiving unemployment benefits who are not counted in the official unemployment rate (now at 5.9 percent). A government measure known as U6 places the real unemployment rate at 11.8 percent when including people who can only find part-time work and those who have grown so discouraged they have stopped looking for a job. This measure could help explain why wage growth and consumer spending have been so weak. It also calls into question the strength of the current bull market in stocks.

Although the most recent consumer confidence report reflected a seven-year high, a survey by CNN reported that just 38 percent of Americans think the economy is in good shape, while nearly two-thirds rated the economy “somewhat poor” or “very poor.”

The “wealth effect” (the positive influence on consumer spending that is expected when asset values like stock, bond and real estate investments increase in value) has yet to drive stronger consumer spending, despite the strength of the rallies in stocks and bonds, and the rebound we have witnessed in many real estate markets across the United States.

With the holiday season fast approaching, and both UPS and FedEx forecasting strong activity, it will be interesting to see if consumers get out and spend. Recall that last year’s severe weather curtailed spending (at least that was the excuse economists pointed to as the reason for weak retail sales results).

The recent GDP growth report of 3.5 percent annualized growth was encouraging, but the proof will be in the retail sales results for the fourth quarter, and in particular the holiday season. If sales are strong, we should expect solid fourth-quarter results for retailers. If sales disappoint, it will become increasingly difficult for consumer discretionary stocks — and the stock market in general — to sustain the current trend.

Craig Allen, CFA, CFP, CIMA, is president of Allen Wealth Management and founder of Dump That Debt. He has been managing assets for foundations, corporations and high-net worth individuals for more than 20 years and is a Chartered Financial Analyst (CFA charter holder), a Certified Financial Planner (CFP) and holds the Certified Investment Management Analyst (CIMA) certification. He blogs at Finance With Craig Allen and can be contacted at .(JavaScript must be enabled to view this email address) or 805.898.1400. Click here to read previous columns or follow him on Twitter: @MPAMCraig. The opinions expressed are his own.

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