The US has a jobs problem: There are too many of them.
There are currently around two jobs available for every unemployed person, and as a result, employers have had to raise wages to attract suitable candidates.
That sounds like a good thing — and it is for Americans who are facing higher prices on everything from groceries to rent. But the Federal Reserve isn't very happy about it. In order to fight inflation, it needs to cool the economy, and larger salaries do the opposite. Higher labor costs can also get passed on by companies to consumers, and that means higher prices.
Why it matters: This inflationary cycle — pay more and then charge more — is exactly what the Fed wants to squash. That's why it will be paying particularly close attention to wage growth numbers in today's jobs report. If they continue to accelerate, the central bank will have more reason to aggressively hike interest rates at its meeting later this month.
There are a number of factors that add to higher prices — including supply chain and commodity pressures — but wages are the dominant driver of inflation moving forward, Aneta Markowska, chief financial economist at Jefferies, told me. "Rising wages are creating a significant amount of inflation. Supply chain issues are expected to ease in the next year, but we're still left with this labor problem."
The only way to get to the Fed's goal of a 2% inflation rate is to see wage growth decelerate sharply, she said.
Great expectations: August's topline unemployment rate is expected to remain unchanged this month at 3.5%, near a 50-year low. Consensus estimates also called for 300,000 new jobs, and average hourly earnings are projected to rise by 0.4% month-over-month.
Last month's jobs report blew expectations out of the water. More than half a million jobs were created, the most in five months. Average hourly earnings grew by half a percent month-over-month.
In the weeks following the July jobs release, Fed officials took a more hawkish stance, warning that rate hikes would continue until inflation comes down and warning of upcoming economic "pain."
Fed Chair Jerome Powell cited the strong labor market as a cause of inflationary concern at his Jackson Hole speech last week. "The labor market is particularly strong, but it is clearly out of balance, with demand for workers substantially exceeding the supply of available workers," he said.
After the last Fed meeting in July, where the central bank raised rates by a whopping 75 basis points, Powell told me that he was closely monitoring wage growth. His ultimate goal, he said, was to bring inflation down and achieve "a landing that doesn't require a really significant increase in unemployment." That's only achieved by slowing wage growth.
The takeaway: Wall Street is currently pricing in a 74% chance of a 75 basis point rate hike at September's Fed meeting, but there's still a lot of ambiguity around the Fed's upcoming policy decision. A very strong jobs report could make it clear to the Fed that a hawkish increase in interest rates is necessary. A weak report would be another confusing data point that adds to the noise.
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