Friday, January 09, 2015

Demographics, Unemployment Rate and Inflation

by Bill McBride on 1/09/2015 04:25:00 PM

A number of people are wondering when inflation (and wage growth) will start to increase.   One key: First come the jobs, and then come real wages.  No one knows how much employment needs to increase before real wages start to increase, but at least we are making progress.

On inflation, I've been looking at this from a demographics perspective.  If we look at the annual change in the prime working age population, there is one other period similar to the current situation - the early-to-mid 60s.

The first graph shows the year-over-year change in the prime working age population (25 to 54 years old).

Note: Ignore the steps up and down - the data was affected by changes in population controls.

Annual change in prime working age populationClick on graph for larger image.

The key is the prime working age population was declining in the early part of this decade and has only started increasing again recently.

This is very similar to what happened in the 60s.

 In the early 60s, there was a slow increase in the prime working age population until the baby boomers started pouring into the labor force.

Inflation and Unemployment in the 1960sThe second graph shows the unemployment rate and year-over-year change in inflation in the 1960s.

In the 1960s, inflation didn't pickup until the unemployment rate had fallen close to 4%.  There could be several demographics reasons for the low inflation (in addition to policy reasons).  As an example, maybe older workers were being replaced by younger workers who made less (just like today), and maybe the slow increase in the prime working age population put less pressure on resources.

Ignoring for the moment monetary and fiscal policy differences between the periods (LBJ's guns and butter and some austerity recently), maybe the unemployment rate will have to fall below 5% before inflation picks up.