There’s no doubt that US prices are rising and that the jobs market is tight.
Those are the two elements for a wage-price spiral; an environment where high prices lead to higher wages in a never-ending cycle that can only be broken by higher interest rates and a growth slowdown, if not a recession.
Yet Blackrock doesn’t think that is going to happen in this cycle because of high automation already in system and improving productivity. For instance, a steel mill that once faced rising wages would see margins impacted significantly. Now that industry is so automated that even a doubling of wages would have only a moderate impact on overall costs.
Blackrock notes that while the US employment cost index jumped 5% last year, US workers are 4.5% more productive than before the pandemic. If you adjust wages for productivity and prices, they’ve fallen since July 2019.
They argue that wages can continue to rise as they catch up to prices and productivity without adding to inflation in a weekly commentary.
The labor market dynamics reinforce our belief that we are in a world shaped by supply, not excess demand. We see inflation cooling from 40-year highs as the economy heals. But we’re are not going back to the “lowflation” years before the pandemic, we believe, amid ongoing supply constraints. As a result, we expect the Fed to ultimately raise rates to a neutral level that neither stimulates nor decreases economic activity. Raising rates beyond neutral to try to squeeze out inflation even further would come at too high a cost to growth and employment, in our view.
Because of that, they favor holding equities over bonds, in particularly US and Japanese equities.
Whether the Fed shares that view will go a long way towards how those trades perform. The risk is that high inflation causes the Fed to over-tighten and sink the economy.