Atlanta Constitution column-May 12, 2004

In all the hoopla about the employment report for April, another report published by the Bureau of Labor Statistics may not have received the scrutiny it deserves.  This is the Employment Cost Index for the previous quarter. 

 

Federal Reserve Chairman Alan Greenspan has stated that a “measured” approach to interest rate increases is possible because no signs of inflationary pressures are apparent in the labor markets.  Indeed, if he is referring to hourly earnings from wages and salaries, there is little evidence that wage pressures are increasing. 

 

(The monthly employment report for April did show a jump of 0.3 percent in those hourly costs last month, but the gains from the previous year remained a modest 2.2 percent.)

 

In March of 1999, hourly wage and salary costs were 3.3 percent above previous year levels.  This March, by contrast, the gains are only 2.5 percent for all civilian workers, down from 2.9 percent the year before.  Greenspan clearly is right on this score. 

 

If only wages and salaries went into labor costs, we could remain sanguine about labor induced inflation.  Unfortunately, that is not the case.  Benefit costs per hour of work also must be considered, and they are rapidly rising to almost a third the level of wages and salaries. 

 

The biggest benefits are pensions and employer paid medical benefits.  In March of 1999, benefit costs were rising a modest 2.3 percent from the previous year for all civilian workers.  This past March, they are 6.9 percent ahead of the previous year.  Moreover, this is further acceleration from an already high 6.1 percent in the previous year. 

 

In the first quarter, fully two thirds of the increased labor costs experienced by employers were benefit costs.  Indeed, some economists have argued that this surge in benefits explains why so many jobs are being shipped abroad, where the benefit surge is not happening. 

 

What is going on?

 

Surprisingly, the high pension costs, about half the benefit gains in the past year, are partially the result of low interest rates.  In programs that provide a specific monthly pension to retirees, the amount of money currently needed to assure that the program has enough resources to provide for the retiree in the future must increase as interest rates fall. 

 

Therefore, this low interest rate environment requires that companies with such benefit programs must divert more of their current cash flow to the pension managers.  Of course, economists and actuaries differ on how long these interest rates will stay this low.  The actuaries accept things as they are.  Economists argue that the current low interest pension burdens are temporary. 

 

Congress has tried to address this problem with a bill that will delay restoring actuarial balance to these programs for two years.  There is merit in this delay, despite concerns by some labor leaders that pension programs will be endangered by this delay in restoring balance to the programs.

 

Many companies have reduced their future pension liabilities by replacing existing benefit programs with employer contributions to retirement based programs, such as the 401K.  Eventually, this will provide some relief from these interest sensitive burdens of the older retirement programs.

 

No such relief is in sight for the medical portion of the benefit surge.  Hospital fees continue to grow at 2.5 times the rate of inflation.  Some of this pressure is caused by the special conditions of labor in medical care, where labor shortages for registered nurses, lab technicians and pharmacists have not yet been alleviated by additional training.  However, the endemic problems that have caused a top health economist to declare that health inflation always will be 2.5 to 3 times normal inflation remain unresolved.

 

Some moderation in prescription price gains has been observed as many blockbuster drugs are approaching the end of their patent protection.  (Whether the current flurry of advertising will replace development costs with marketing costs without providing patient relief remains to be seen.)

 

However, third party reimbursement processes are out of control.  Litigation also remains far beyond reasonable levels (at least in the eyes of most non-lawyers).  This has resulted in a surge of doctors’ fees in recent months.  Indeed, there is no current moderation in this medical cost explosion, as the increase in doctors retiring from practices is greater than new openings at medical schools.

 

When what the employer pays for the employee is added to what the employee receives, there are signs that labor costs are intensifying.  In 1999, an hour of labor cost an employer 3 percent more than the year before.  Today, despite lower wage growth, that hour is costing an employer 3.8 percent more than the previous year for the average civilian worker. 

 

I’m sorry Mr. Greenspan, but that is labor induced inflationary pressures in my book.