Will falling labor costs take the pressure off the U.S. Federal Reserve to begin its "exit strategy," which includes raising interest rates to curb inflation?
Productivity was up to 6.4%, while labor costs dropped at an annual rate of 5.8%, the U.S. Department of Labor said yesterday (Tuesday). The productivity boost was the largest in almost six years and a marked improvement over the first quarter's 1.6% productivity gain.
"This is good for the cost structure of companies," said Chris Rupkey, chief financial economist at Bank of Tokyo - Mitsubishi UFJ Ltd. in a Bloomberg News interview. "The Fed will be encouraged on the inflation story. They have taken a lot of heat on the exit strategy. Certainly there is no rush to exit."
The Fed yesterday began a two-day meeting and is not expected to raise the benchmark Federal Funds rate, which stands at a record low range of 0-0.25%.
"[The data] gives the Fed more room to keep rates lower for longer in order to move the economy as quickly as possible through the recovery phase to an expansion mode," Brian Bethune, chief U.S. financial economist at IHS Global Insight Inc. told Reuters.
The worst recession since the Great Depression has changed the conventional thinking that lower costs translate into better bottom lines for companies and investors alike, says Capital Economics economist Paul Ashworth.
"In normal circumstances, we might argue that decline [in labor costs] is good for profitability and, consequently, equities as well," Ashworth wrote in a note to investors. "With demand as weak as it is, however, we can't see the fall in costs translating into fatter profit margins (or thinner losses). Instead, we suspect that the decline in wage costs will lead to a decline in prices, which is exactly the sort of downward wage-price spiral the Fed will be desperate to avoid."
Circumstances in the second quarter were anything but normal: A total of 1.2 million jobs were lost in the United States. While the unemployment rate actually fell in July to 9.4%, another 247,000 people lost their jobs. If this pace or a higher one continues - and most economists and the U.S. government expect just that until around the turn of the year - doing "more with less" will become the norm as the jobless recovery begins.
News and Related Story Links:
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Bloomberg News:
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Reuters:
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The Christian Science Monitor:
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