Afternoon Must-Read: Ryan Sweet and Adam Ozimek: U.S. Employment Outlook: Solving the Wage Puzzle

A little more evidence to move you slightly, slightly toward the position that the unemployment rate is exaggerating the extent to which the economy has moved toward full employment…

Ryan Sweet and Adam Ozimek: U.S. Employment Outlook: Solving the Wage Puzzle: “The U.S. labor market has tightened…

…but wage growth remains mediocre at best. This appears counterintuitive: All else equal, falling rates of unemployment should prompt faster wage growth. Several potential explanations have been offered…. One is that the unemployment rate could be sending a false signal about the amount of slack in the job market. Another… blames pent-up wage deflation… firms could not cut nominal wages by as much as they wanted during the recession, and are thus reluctant to raise wages now…. Because the economies of U.S. states experienced different rates of recession and recovery, they offer a laboratory in which to test the pent-up wage deflation hypothesis….

In six states the unemployment rates are below NAIRU, while in four states it is 1.5 percentage points above full employment…. The pent-up wage deflation hypothesis predicts that wages will accelerate not steadily, but quickly once the tipping point is reached. While the data show some relationship between wages and the unemployment gap, the results show little evidence of an acceleration in wage growth as the economy approaches full employment. This suggests there is no pent-up wage deflation…. We believe the labor market still has considerable slack… includ[ing] workers unemployed longer than six months, those who left the workforce but will return once job opportunities appear, and part-timers who would prefer to work full time…. Because the unemployment rate is no longer an accurate measure of labor force, assumptions about the unemployment gap can produce incorrect expectations of when wages will accelerate…