Main takeaways:
  • ECI is Fed's preferred measure of wage growth.
  • So is is worth looking beyond the headlines...
  • ...and they suggest wage growth is firming.
  • Wages are growing at 2.5% pace, higher than the headline 2.1% would suggest, and...
  • ...the pace of wage growth in increasing -- as one would expect.

The employment cost index (ECI) measures the change in the cost of labor, free from the influence of employment shifts among occupations and industries -- and therefore is often Fed's preferred measure of labor costs. Total compensation costs for civilian workers is the measure that makes the headlines. It includes wages and salaries (around 70% of compensation costs) and benefits. Civilian workers includes private industry and state and local government establishments.

I will focus only on wages and salaries for private industries of the ECI report.

The chart below shows that wages and salaries for private industry workers rose 2.1% yoy in the first quarter of 2016, unchanged from the number reported in 4Q 2015. However, there is clearly a base effect (1Q 2015 seems to have been an outlier) and wages increased 2.6% annualized in the last three quarters (2.9% ar in 1Q 2016).

The ECI report breaks down wages by industry. The chart belows shows a surprising result: wages in the goods-producing industries (and manufacturing) -- a sector which is currently struggling -- is rising faster than wages in services and the growth rate is increasing.

But the above-mentioned discrepancy is also only due to base effect. When looking at the last two or three quarters, wage growth in both goods and services producing industries were close to 2.5% annualized.

One can also look at the detailed industry breakdown (looking into goods and services sectors). There is a lot of noise in the breakdown, but the black line in the chart below shows a simple average of annual wage growth for the main industries.

The chart below plots only the average for the main industries in order to highlight the recent trend.

Another way to understand the base effect is to look at wages by occupational group. We can see that sales & office spiked in the first quarter of 2015 and therefore the annual growth rate collapsed in 1Q 2016.

The chart below highlights the spike in wages for sales & office occupational group that happened in early 2015. There is an interesting paper explaining the volatility in the ECI indexes due to rates of pay that are defined wholly or in part on the results of worker efforts and the BLS reports an index of wages excluding incentive paid occupations. The chart also shows that the spike was related to performance incentives / bonus.

The chart below reproduces wages by occupational groups excluding incentive paid occupations (except for natural resources and construction). One gets a very different picture of wages by looking at this chart.

Now back to all wages. It shows that wages for private industry workers ex. incentive pay is growing at 2.5% yoy (vs. 2.1% when incentive pay is considered) and in the last two quarters wage growth has been 2.6% annualized (vs. 2.3% annualized when incentive pay is considered).