Tuesday, November 18, 2014

From the "We are the 100%" file: Sticky Wages and Sticky Fed Funds Rate

Scott Sumner has a great post at econlog.  The words were flowing from my penny pencil today, so I thought I'd copy & paste a comment I left there.  But, I encourage you to read Scott's post.


Great post.
I think this is related to another illusion - that rising wages are inflationary. If Fed policy is sticky, then it will be pro-cyclical, and Fed policy will lead to inflation when a strong economy leads to rising real wages and interest rates.
The illusion is bolstered by the cognitive illusion of narrative thinking, where we imagine that employers and employees are in a negotiating battle and that rising wages are a result of employees having a stronger hand in negotiations.
But, rising wages aren't associated with falling profits.
But, this also is related to an illusion. Since profits are not sticky, they are the first measure to fall when a correction comes. When they begin to fall, it will naturally happen at the cyclical high point of wage growth and profit. So, if one is inclined toward believing the negotiating narrative, the empirical evidence will seem clear as a bell. Don't you see? Whenever real wages are growing at their highest, profits fall.
The narrative says that when a worker has readily available other options, he can go to his supervisor and demand a raise. This is why rising wages are associated with low unemployment.
But, the negotiation is a red herring. The real effect in that picture is that the worker has other opportunities, and that they are willing and able to move out of their current job into a job that captures more of their productive potential. It's the movement that creates the rising wage, not the negotiation. And, this is obvious in the JOLTS data.
This and a thousand other effects where frictions that keep labor from flowing freely to its best use are what keep real wage growth down when unemployment is high. Everybody is better off without the frictions. So, we see high real interest rates, high profits, and growing real wages together. The correlation of these sources of income is so overwhelming through business cycles, it's incredible that it is so universally misunderstood.
This is why it is so infuriating to me to see the "1% vs. 99%" rhetoric and the "corporations love to see high unemployment" rhetoric. Humanity has a special ability to use divisiveness in the service of ignorance. This is a case where the unifying truth is right in front of our noses, and so many people just aren't going to accept it.


  1. I agree, however consumer saving IS negatively correlated with profits (Kalecki profit equation) so the pro-profit crowd implicitly wishes consumers to fall deeper in debt.

  2. I think I agree with this post.

    That said, I think there is an inchoate belief on the right-wing that tight money clamps down on labor excesses, and shrinks government too.

    This erroneous conflation of monetary policy and the size of federal government is crazy.

    Tight money and wages? Maybe something there.

    Since the tight-money era started in the early 1980s, labor share of business income has fallen from 70% to 60%.

    You see FOMC board members like Fisher braying the wages are now rising faster than inflation, danger Will Robinson!

    So, there may be a class-war subtext to monetary policy. Even so, I think the upper class has cut off its nose to spite its face; rising wages and robust economic growth would benefit everybody.

    1. I agree. It would be one thing if we were at 8% inflation, which does raise the de facto tax on capital gains. But the hawkish stance in today's context hurts everyone.

      I don't see any reason to think monetary policy would change the shares of national income over the long term.

    2. Well, when nearest sustained strong demand for labor, then labor has more leverage, and vice versa.