U.S. Q2 Unit Labor Costs Deflate Yet Fed Predicts PCE Well Above “Average” 2% IT?

A Benjamin Cole post

The price of labor, in much of the developed world, is the bulk of the price of doing business. Depending on the estimate, between 60% and 70% of the cost of doing business is simply compensating employees.

While the U.S. Federal Reserve desperately sifts through data to find some reason to justify a rate hike, unit labor costs in the latest reported quarter, Q2…fell at a 1.4% annual rate.

I will cherry pick a little, but here is another fact: From Q3 2012 to Q2 2015, unit labor costs are up 1.77%—far less than 1% annually.

And indeed, from Q1 2007 to Q2 2015, a more than eight-year period, unit labor costs are up 5.91%. Again, unit labor costs are rising at less than 1% annual rates.

Fed’s 2% “Average” Target on PCE?

For the Fed to guess that inflation threatens to move above target when unit labor costs are presently falling, and have risen by less than 1% annually in the last seven years—well, I guess the Fed wants to predict inflation above target, and it will do so.

Of course, we have been below the Fed’s 2% “average” IT target continuously for more than three years. So, we “need” a couple of years above the “average” target.

So, if the Fed raises rates now, the Fed must be guessing inflation will be well above the average 2% PCE target for several years. After all, if we ran 3% inflation on the PCE for a couple of years, that would just balance results back to the putative average 2% IT.

Thus, if the Fed raises rates, it is saying  the U.S. will soon be above 3% PCE  inflation!

The TIPS market, btw, is predicting under 1% inflation for the next 5 years, as measured on the PCE.


Let me guess: We will see inflation and interest rates stay near zero, and sluggish economic growth.

Thanks, in large part, to Fed too-tight policies.


2 thoughts on “U.S. Q2 Unit Labor Costs Deflate Yet Fed Predicts PCE Well Above “Average” 2% IT?

  1. Great post.
    Reinforced in today’s August jobs report showing no economy-wide wage growth. But why should there be? Inflation, even wage inflation remains a monetary phenomenon not a real one.

    Why do the Calculated Risk unemployment and yoy change in employment charts make it look like a peak in economic activity? Because the Fed will make it happen? Say it ain’t so!

  2. This should be the Fed’s version of “Deflate-gate.” We have bureaucrats at the Fed who simply do not know what they are doing, seeing inflation that doesn’t exist with the fingers on the nation-wide financial self-destruct button!

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