The Bureau of Labor Statistics' employment report for April implies there is a big problem developing for the Fed, fiscal authorities and the markets.
That's because the labor force participation rate is decreasing, while those participating in the economy are experiencing an acceleration in earnings, according to the report.
Average hourly and weekly earnings increased across every sector, except retail, from March to April and at an accelerating rate.
This is what was reflected in the seasonally adjusted tax receipt data, which I referenced last weekend in my column, Payroll Tax Receipts Hint June Rate Hike. It is interesting to note that it also occurred while the labor force participation rate declined to 62.8% in April from 63% in March.
If this trend of bifurcation continues, it not only implies that the structural changes to the economy that have been debated for the past several years are real, but that the Fed has essentially two distinct economies to consider.
The Fed's dual mandate of full employment and price stability are indicative of these two economies.
Full employment concerns the people who are actually actively engaged in the economy, either by working, seeking work, or eligible to work. The people not in these categories are not a part of the economy for monetary policy purposes.
Those people are the concern for fiscal policy authorities at the federal, state, and local level of government and how they are treated for unemployment benefits, educational support, and other means of attempting to make them economically eligible and viable.
Stable prices, however, are the result of spending by both groups.
The traditional economic model of activity is that secular increases in activity, following decreases, begin with an increase in consumer confidence. An increase in confidence is usually the result of some level of economic stagnation having been achieved that results in people believing the worst has passed, their job and income is perceived as being secure, and the willingness to borrow for consumption increases.
The increase in consumer demand causes an increase in labor demand to meet it that is evidenced by decreases in unemployment and increases in employment and wages.
Wage inflation is followed by price inflation, an increase in economic activity, and the need for the Fed to raise interest rates.
In that model, you will see that jobs, wages, prices and consumption are all linked, providing a single economy for monetary policy to be managed.
What's beginning to be evidenced now, however, is a break in those linkages.
That break appears to be the result of a mismatch between the labor skills demanded by private capital and the skill sets available by the labor.
The people with the skill sets in demand are experiencing an acceleration in wages and causing nascent wage inflation to be evidenced, while the people without skill sets that are in demand do not have wages and cannot consume.
That break is causing price inflation, as measured by the Fed's personal consumption expenditures (PCE) to remain below potential.
If the nascent trend in accelerating increases in wages and earnings continues, coupled with a continuing decrease in labor participation and thus PCE, the Fed is going to have to decide which part of its dual mandate it's going to manage monetary policy.
For the past few years, even though the unemployment rate has steadily decreased, there has not yet been an increase in wages, or PCE, that warranted the necessity for the Fed to raise rates.
Following today's employment report, the general consensus among market participants is that the Fed will punt on a rate hike next month.
That's probably a good bet at this point, but if wages continuing rising while labor force participation and consumption do not, the Fed is going to have to decide which to focus monetary policy on.
Although they may decide to allow wage inflation to run high for some time, while waiting to see if it becomes a catalyst for consumption and broader job growth, the mounting evidence suggests that it won't work.
All of this is indicative of the need for the government to directly create demand that matches the labor skill sets that private capital is not pursuing now.
The logical focal point would be a federal infrastructure program. That, however, is not politically viable until the next executive administration's first fiscal budget, which is essentially two years away.
The issue for the Fed, fiscal authorities, private business and investors is that it is probable that this situation is going to cause problems for all before then.
