Wage inflation modest, but upside surprise does not change weak fundamentals: Justin Smirk

EXPERT OBSERVER

The June quarter has brought a very modest lift in wage inflation.

In the quarter the Wage Price Index (WPI) lifted 0.6% vs market expectation for a 0.5% rise and up slightly from the 0.5% rise in the March quarter. This held the annual rate flat at 2.3%yr which is a modest lift from the low of 1.9% in 2017 but can hardly be described as a breakneck pace.

We still expect wage inflation to drift higher from here - our forecasts have it peaking around 2¾%yr in 2020 - but given how well contained wage inflation is across the nation, and between sectors, even this modest increase looks optimistic and the risks to this forecast remain more to the downside than upside.

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In the March quarter, total hourly wages ex bonuses rose 0.6% compared to a market median (and Westpac) expectation for 0.5%.

The print was 0.61% at two decimal places with a 0.54% rise in private sector wage rates and a very solid 0.82% rise in public sector wages, the largest quarterly rise in public sector wages since Q1 2014.

But it should be noted that this followed the smallest quarterly rise in public sector wages since March 2000 of 0.45% rise in the last quarter highlighting a bit more volatility in this series than what is normally the case. It appears that state governments have released the purse strings, a little, for wages.

In the quarter, the largest increase in public sector wages was in Victoria (1.5%) with a more average rise in Queensland (0.5%) and a below average rise in NSW (0.2%).

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Private sector wages printed 0.54% in the last two quarters. The annual pace eased back to 2.3% from 2.4% as the March 2018 quarter print of 0.55%, the fastest pace since December 2014, dropped out of the equation.

Public sector wage inflation lifted a little to 2.6% from 2.4% over the year to be back on par with the recent peak of 2.6% in September 2018.

So while an annual pace of wages growth of 2.3% is a modest lift from the 2.1% held from December 2017 to September 2018 which, in itself, was an improvement from the record low of 1.9% in the four quarters before 2017 Q3, it does not suggest any reason to suspect a “wages breakout” is hiding in the wings as wage inflation is well contained and remains under the historical average.

Since 2018, Westpac watched the rapid fall in the Victorian unemployment rate, and because of this, we have been looking an acceleration in Victorian wage inflation.

In the June quarter, Victorian wages lifted 0.7%, stronger than the 0.5% gain in March but a moderation from the 0.8% gain in both Q3 and Q4 of 2018.

The annual pace of Victorian wage inflation has lifted to 2.9% - the fastest pace by any state and the fastest pace in that state since September 2013.

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Contrast that with NSW, where wage inflation was flat at 2.3%yr. Here there has been a longer history of a tighter labour market and yet it has failed to generate wage inflation as it has in Victoria.

We are closely watching how far the lift in Victorian wages extends. If it continues into 2020, it should lead to modest wages pressures in other states (particularly in NSW) as employers start competing for labour.

But we would not overstate this as we expect the overall impact to be modest given that the improvement in the national labour market, as measured by the fall in underutilisation, has not been as significant as it is has been in Victoria.

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Private sector wages including bonuses continues to run at a faster pace than the measure excluding bonuses (2.4%yr vs 2.3%yr respectively) but the pace has slowed from a recent peak of 2.7% in Q4 2018.

The faster pace growth of growth in variable compensation, which tends to be positively correlated with the economic cycle, was pointing to some upside risk for wages.

However, as the pace of economic activity slows, this modest pressure is easing, suggesting the pressure on variable compensation is unlikely to be transferred to fixed compensation.

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By industry, the fastest gains in wages are still in what we consider to be non-cyclical sectors such as heath care (3.3%yr), arts & recreation (2.8%yr), public administration (2.5%yr), education & training, other services and professional & scientific (last three all on 2.4%yr).

The slowest wage growth remains in the cyclical industries such as wholesale trade (1.7%yr), retail trade and construction (both 1.9%yr) with manufacturing at just 2.0%yr.

Even in mining, where there is talk of a modest recovery in investment and talk of emerging shortages of skilled labour, wages are growing just 2.2%yr.

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Overall, today’s WPI print is a disappointing update and one that will make us take a closer look at our forecast for wage inflation to get back to around 2¾%yr in 2020.

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JUSTIN SMIRK is ‎a senior economist for Westpac,