If you want an example of a vicious economic cycle, try this: The pay raise you need to deal with soaring inflation might be contributing to the very inflation that caused you to need the raise in the first place.
This is referred to as “wage-push” inflation. It basically means that rising wages contribute to higher consumer prices. As NPR reported earlier this year, a “wage price feedback loop” produced sky-high inflation way back in the 1970s and might be playing a part in this year’s high inflation rate.
Here’s how it typically works: when a worker’s wages go up, their employer’s cost of doing business also goes up in the form of higher labor expenses. Unless some other cost goes down, such as the price of goods, then those higher labor expenses cut into the employer’s profit margins. If the employer wants to maintain its margins, its only option is to raise prices to make up the difference — and higher prices equal inflation.
That’s not the only reason pay raises might contribute to inflation. When consumers have more money, they tend to spend it, CNN reported. This gives companies even greater flexibility to raise prices, something they can’t do when wage growth is suppressed. Right now, wage growth is not suppressed.
As CNN noted, average hourly wages in the United have risen 5.2% over the past 12 months, according to the federal government’s August jobs report. That’s down from a 2022 peak growth rate of 5.6% in March but still historically high.
In contrast, wages typically rose only 3% year-over-year before the COVID-19 pandemic contributed to labor shortages and gave workers more power to demand higher pay. The result is that companies have continued to raise prices to help offset rising labor and other costs.
Some experts downplay the impact rising wages have on inflation, arguing that many companies are only using it as an excuse to jack up prices and further bolster already robust profits. Meanwhile, millions of American workers need higher pay simply to afford basic necessities — especially when year-over-year inflation is running at higher than 8% while pay raises are closer to 5%.
“Wages are a real pain point. People are paying more but not making more,” Marta Norton, chief investment officer of the Americas with Morningstar Investment Management, told CNN.
In any case, economists will keep a close watch on the September jobs report, scheduled for Oct. 7. They’ll be paying special attention to data on wage growth. If wages remain high, the Federal Reserve might have to keep hiking interest rates in the hope that core inflation, which excludes food and energy prices, will eventually come down to 2%. Through August, core inflation was up 4.9% year over year.
“I don’t see anything in the near term to give the Fed tons of comfort that inflation is on the trajectory to 2%,” David Petrosinelli, senior trader with InspireX, told CNN. “Wages will remain elevated and that will keep the Fed in a pickle.”
More From GOBankingRates