By Lucia Mutikani
WASHINGTON (Reuters) - U.S. labor costs increased solidly in the third quarter amid strong wage growth while house price inflation accelerated in August, the latest signs that the Federal Reserve could keep interest rates high for some time.
The reports on Tuesday pose a threat to efforts by the U.S. central bank to bring inflation to its 2% target. Fed officials started a two-day policy meeting on Tuesday. The U.S. central bank is expected to leave interest rates unchanged but maintain its hawkish bias at the conclusion of that meeting as a recent spike in U.S. Treasury yields and stock market sell-off have tightened financial conditions.
"Those wage increases are likely to keep inflation running above target while higher house prices could lead to a pick-up in shelter inflation," said Andrew Hollenhorst, chief U.S. economist at Citigroup in New York. "For now the Fed will remain on-hold, but the evident upside risk to inflation means Chair (Jerome) Powell and committee will keep potential further rate hikes on the table."
The Employment Cost Index (ECI), the broadest measure of labor costs, rose 1.1% last quarter after increasing 1.0% in the April-June period, the Labor Department's Bureau of Labor Statistics reported. Economists polled by Reuters had forecast the ECI would rise 1.0%.
Labor costs increased 4.3% on a year-on-year basis, the smallest gain since the fourth quarter of 2021, after advancing by 4.5% in the second quarter. Growth in annual compensation is gradually slowing after peaking at 5.1% last year, in line with some easing in labor market conditions. It, however, remains well above the pre-pandemic pace.
The rise in compensation helps to explain the surge in consumer spending last quarter, which contributed to the fastest economic growth rate in nearly two years.
The ECI is widely viewed by policymakers and economists as one of the better measures of labor market slack and a predictor of core inflation because it adjusts for composition and job-quality changes. Since March 2022, the Fed has raised its policy rate by 525 basis points to the current 5.25%-5.50% range.
Wages increased 1.2% in the third quarter after climbing 1.0% in the prior three months. They were up 4.6% on a year-on-year basis after advancing by the same margin in the second quarter. Strong wage growth is being driven by worker shortages that still persist in some services industries.
September's job openings data on Wednesday will shed light on the state of demand for labor.
Though consumers continue to worry about the economy's outlook, more are planning vacations over the next six months and are not contemplating scaling back in a major way on purchases of motor vehicles and other big-ticket items, according to a survey from the Conference Board on Tuesday.
Their concerns about the economy center around the violence in the Middle East as well as domestic politics, likely reflecting the protracted battle to elect a speaker in the U.S. House of Representatives.
The Conference Board's so-called labor market differential, derived from data on respondents' views on whether jobs are plentiful or hard to get, rose to 26.3 from 25.5 in September. This measure correlates to the unemployment rate from the Labor Department. Overall, the consumer confidence index dropped moderately to 102.6 this month from 104.3 in September.
"The U.S. consumer is in okay financial shape," said Bill Adams, chief economist at Comerica (NYSE:CMA) Bank in Dallas. "For well-off Americans, inflation is a source of frustration but not enough to force cutbacks in overall spending."
Stocks on Wall Street were trading lower. The dollar gained versus a basket of currencies. U.S. Treasury prices rose.
CONSUMER CONFIDENCE EBBS
The compensation report showed private-sector wages gained 1.1% after rising 1.0% in the April-June quarter. They advanced 4.5% on a year-on-year basis. There were notable increase in wages in the financial activities and education and health services sectors. But wage growth slowed in the leisure and hospitality industry, which had experienced worker shortages.
Manufacturing also reported a moderation in wage gains.
State and local government wages shot up 1.8% after increasing 0.8% in the prior quarter. They were driven by rises in education and health services as well as public administration. State and local government wages increased 4.8% on a year-on-year basis, the most since the government started tracking the series in 2001.
Inflation-adjusted wages for all workers rose 0.9% on a year-on-year basis after jumping 1.7% in the second quarter. While slowing, wages should continue to underpin spending.
Benefits rose 0.9% last quarter after climbing by the same margin in the April-June period. They increased 4.1% on a year-on-year basis.
Economists expected the higher wages and benefits to pressure corporate profits, with Nationwide chief economist Kathy Bostjancic noting that "some companies are losing a bit of their pricing power."
A third report from the Federal Housing Finance Agency showed house prices increased 0.6% in August, driven by an acute shortage of previously owned homes. House prices rose 0.8% in July. While lofty house prices are boosting household wealth, they could keep inflation elevated in the near-term.
In the 12 months through August, house prices accelerated 5.6% after advancing 4.6% in July. With the rate on the popular fixed 30-year mortgage near 8%, some economists see limited scope for house prices to keep rising, which would result in rents contributing less to inflation.
Higher rents were the major drivers of inflation in September after cooling somewhat in prior months.
Even as house prices continue to march higher, there are signs that shelter inflation could moderate next year.
A fourth report from the Commerce Department's Census Bureau showed the rental vacancy rate jumped 6.6% in the third quarter, the highest since the first quarter of 2021, from 6.3% in the April-June period.
"We still think it is likely that the surge in mortgage rates will slow the rise in prices in the secondary market going forward," said Lou Crandall, chief economist at Wrightson ICAP (LON:NXGN) in New York.