The Fed’s Song These Days Is ‘Anticipation’


Is a new round of wage increases about to trigger an inflationary spiral that could trip up the U.S. economy after six years of steady growth?

With the unemployment rate a low 5.3% nationwide and labor in short supply in many areas of the country, that is the knotty question facing the Federal Reserve Board as it prepares for a key two-day strategy meeting today and Wednesday.

The major item on the central bank’s agenda will be whether the wage threat is real enough for the Fed to mount a preemptive strike in the form of a small rise in interest rates.

Although there is still no hard evidence that labor costs have begun to intensify, Fed Chairman Alan Greenspan has warned that rising wages and fringe benefits soon may put pressure on prices. And he says the Fed is poised to act swiftly if they do.


“The relatively modest wage gains we’ve seen are a transitional rather than a lasting phenomenon,” the Fed chairman told the Senate Budget Committee recently. “The recent pickup in some measures of wages suggests that the transition may already be running its course.”

Wage pressure is particularly strong in the Midwest, where the job market is uncommonly tight. In Rockford, Ill., where the jobless rate has fallen to 4.6%, employment specialist Sylvia Gaffney says employers have begun bidding up wages to compete for workers.

Jean Zitale, owner of a Rockford fast-food chain, says her firm has had to boost starting wages to $6.50 an hour--up from $5.50 last summer--to attract new workers. It will have to go to $7 an hour within three months to keep them.

Zitale says workers’ fears of getting laid off also have disappeared.


“If they want a weekend off, they simply don’t show up for work,” she said. “They know that every restaurant has a sign out saying it’s hiring.”

Donald H. Straszheim, chief economist for Merrill Lynch & Co., says the prospect that an overheating economy may spawn a new surge of wage and benefit increases is the biggest threat to the current six-year run of solid economic growth.

“The most likely imbalance to stop this recovery is that we’ll have overheating,” Straszheim said. And that, he added, means higher labor costs.

Economists say new action by the Fed to raise interest rates--probably only a scant quarter of a percentage point at first--would not be a growth-killer in itself. But it would signal a policy shift by the central bank that could crimp the economy severely later on.

By historical standards, labor costs should already be accelerating. For more than a year, the unemployment rate has been hovering close to 5.3%, a level that traditionally has signaled a revival of pressures for higher wages.

Economic growth appears strong. New figures published on Friday showed that the economy grew at a robust 4.7% annual rate during the final three months of last year, rebounding from a 2.9% pace in the previous quarter.

But analysts say this time workers have been more cautious, for several reasons:

* With inflation relatively low during the last few years--and cost-of-living increases protecting them against the modest rise in prices--workers have had no compelling reason to push for “catch-up” pay increases, as they did during the late 1970s and early 1980s.


* The globalization of the economy has forced American firms--and workers--to compete more directly with companies from abroad, leaving less leeway for the large hikes in wages and benefits that usually have accompanied tight labor markets at home.

* The need for American firms to streamline has led to sizable and well-publicized layoffs that have left many workers insecure about how long they will be able to keep their jobs and reluctant to push for large wage hikes for fear of being unloaded in the process.

* Where wages have risen significantly, employers have offset the increases by holding down the cost of fringe benefits, either by shifting to managed care in medical benefits or by limiting big pay increases to highly skilled workers.

Greenspan told the Senate Budget Committee that as he sees it, “heightened job insecurity explains a significant part of the restraint on compensation and the consequent muted price inflation.”

But analysts say such fears may be abating as Americans begin to realize that the economy is doing better than has been popularly perceived. Besides, offsetting factors--such as the slowdown in the cost of health-care benefits--may be about to end.

While the changes have not gotten big enough to influence the national statistics yet, anecdotal evidence from tight labor areas such as the Northeast and upper Midwest suggest that labor costs may soon be on the rise again--albeit slowly at first.

Moreover, many analysts believe that the cost of providing fringe benefits, whose moderate rise in 1995 and 1996 helped hold overall labor costs and inflation pressures down, may be about to accelerate again.

An annual survey of firms across the country shows that employers expect the cost of providing medical benefits--which has been rising only 2% a year since 1994--may jump 4% in 1997 and as much as 10% in 1998 and beyond, pushing many firms toward price hikes.


“Clearly, we have the initial signs of a compensation-based inflation,” Straszheim said.

Even so, many economists contend that any real wage push is far off. Friday’s report on output showed inflation rising at only a 1.8% annual rate during the last three months of 1996, down from a 2% rate during the previous three-month period. That is hardly a sign that the economy is at immediate risk. And Greenspan acknowledged that he has decided that the long-standing law of economics--that inflationary pressures inevitably will stir again when the unemployment rate falls to a certain level--may not be as ironclad as some economists have supposed.

Indeed, businesses in Madison, Wis., report that wage pressures there are only beginning to increase, even though the local unemployment rate has been low for months. It currently is an astonishing 1.2%.

It’s not clear how soon the Fed would act to ward off any perceived new inflation. Greenspan hinted last week that policymakers are not likely to boost rates at this week’s meeting because both the labor-cost figures and inflation index continue to be low.

But there is little doubt that the economy has entered a danger zone in which Fed policymakers and Fed watchers alike will be on the alert for signs that inflation is on the rise again.

“The unknown,” Greenspan said, “is how long the transition will last.”


Personal earnings up at year-end; manufacturing slows. D12