Inflation came in strong and wage growth remained elevated at the end of 2021, setting the stage for a challenging economic year in which the Federal Reserve and White House will try to maintain momentum in the job market while wrestling price gains under control.
The personal consumption expenditures index, the Fed’s preferred inflation gauge, came in at 5.8 percent in December, up from 5.7 percent the prior month. That beat out the prior month to become the fastest pace since 1982.
Inflation is moderating somewhat on a monthly basis, but its still-high annual readings come at a moment when pay is picking up briskly. While robust wage growth is good news for workers, it also increases the risk of sustained high inflation: Companies may raise prices to try to cover rising labor costs.
The Employment Cost Index, a measure of pay and benefits the Fed watches closely, picked up by 1 percent in the final quarter of 2021 from the prior year. While that was less of a gain than the 1.2 percent economists in a Bloomberg survey had forecast, it capped a robust year of increases: The gauge climbed 4 percent in the year through the fourth quarter, with its wages and salaries measure picking up by 4.5 percent.
That marked the fastest pace of increase for both the overall compensation and the wages and salaries measure since the data series started two decades ago.
“Overall wage growth, on a nominal basis, is still pretty strong,” said Omair Sharif, founder of Inflation Insights — referring to the data before they are adjusted for inflation. “The downside is that inflation is eating away at all of these nominal gains.”
Price gains are also chipping away at consumer confidence, making inflation a political liability for the Biden administration and Democrats during a midterm election year. While the White House has taken steps aimed at relieving pressure on choked supply chains, the job of slowing down demand to bring prices under control rests primarily with the Fed.
The Fed’s policymakers have signaled that they will likely begin to raise interest rates at their March meeting as they try to prevent today’s quick price increases from becoming a more permanent feature of the economic landscape. Markets are nervously eyeing the Fed’s next steps, trying to gauge how much it will raise rates and how rapidly. Higher borrowing costs could slow down economic growth and lower stock prices, taking some of the buoyancy out of America’s expansion.
Understand Inflation in the U.S.
Economists do expect inflation to fade this year, though tangled supply chains make it difficult to gauge when that will happen. The world’s trade system remains under pronounced stress, based on various measures — including one produced by the Federal Reserve Bank of New York that incorporates backlogs, delivery times and inventories.
Inflation sped up starting last year as people bought more goods, aided by repeated government relief checks and other federal benefits. The world’s factories and shipping lines have struggled to keep up with demand, resulting in rising prices for cars, lumber and clothing. While spending has moderated somewhat recently — it fell in December as Omicron spread, as goods consumption declined — it is unclear whether that is a blip caused by the pandemic or a lasting pullback.
Fed officials have been watching for signs that inflation, which they have projected will ease to less than 3 percent by the end of the year, might instead linger.
“We are attentive to the risks that persistent real wage growth in excess of productivity could put upward pressure on inflation,” Jerome H. Powell, the Fed’s chair, said during a news conference on Wednesday. Friday’s data could offer officials some slight reprieve.
Mr. Powell had in December specifically cited the previously Employment Cost Index reading — which came in high during the third quarter — as one reason that the Fed had decided to shift from stoking growth to preparing to fight back if inflation becomes long-lasting.
The fact that the measure did not pick up as sharply as expected in the final quarter of the year could give investors some confidence that the central bank’s policy-setting group, the Federal Open Market Committee, will not further speed up its plans to withdraw economic help.
“With labor participation creeping higher, and measures of excess demand flattening in recent months, it is reasonable to think that wage growth is unlikely to re-accelerate dramatically,” Ian Shepherdson, chief economist at Pantheon Macroeconomics, wrote following the release. “In the meantime, this report eases the immediate pressure on the F.O.M.C. to act aggressively.”