Tue Jul 6, 2004
By Victoria Thieberger

NEW YORK (Reuters) - While American companies are enjoying their best profits in decades, workers have seen scant gains in wages and if that doesn't change soon, economists worry consumer spending could falter, hurting the economy.

Workers have played a vital role in reviving the economy by spending through thick and thin during the recent downturn. But they have yet to reap the benefits of the recovery.

The latest employment report released on Friday showed U.S. wage growth slowed sharply in June after a recent pick-up, and analysts say the benefits of solid economic growth have flowed more to corporate profits than to workers.

"I'm very surprised that reasonable people are worrying about the rise in wages and unit labor costs," said Jim Glassman, senior economist at J.P. Morgan.

"To me, the news that we're watching tells us that labor is not getting its fair share yet," he said.

Indeed, wage increases are falling far short of inflation, suggesting workers may have trouble keeping up with the economic recovery.

They have yet to benefit from the surge in productivity as they crank out more goods and services. Instead, all that increased productivity is boosting corporate profits, which hit a record in the first quarter.

Economists worry that the recent softening in retail sales could be partly due to the failure of wages to catch up with economic growth. They say household spending could slow further should wage growth fail to improve.

REAL WAGES FALLING

The June employment report showed the smallest increase in average hourly earnings this year, only 0.1 percent.

That helped counter fears that rising compensation might fuel inflation and thus prompt the Federal Reserve to raise interest rates aggressively.

"This suggests that there is no wage-push inflation in the pipeline, which is good news," said Lehman Brothers financial markets economist Drew Matus.
"But it also implies that consumers' incomes may not recover as fast as previously thought, which is bad news," he added.

Over the year to June, hourly earnings rose only 2.0 percent -- well below the 3.1 percent inflation rate recorded in May, the most recent data available.

Research by the independent Economic Policy Institute in Washington shows that, after adjusting for inflation, real wages have fallen in six of the last seven months. The average hourly wage of $15.63 in May was the lowest in inflation-adjusted terms since May 2002.

"This squeeze in real wages may explain the recent softness in consumption," said Ian Morris, HSBC chief economist. Chain store sales have been slow in recent weeks, and big retailers have trimmed their forecasts for June. Even hitherto robust auto sales slumped last month.

Of the several measures of labor costs that economists focus on, another recently turned positive.

Unit labor costs, which are released only quarterly, rose 0.8 percent in the first quarter from the previous quarter, after declining in 2002 and 2003.

That sparked talk on Wall Street that wage growth would boost inflation and require more aggressive interest rate hikes from the Federal Reserve. But the Fed last week reiterated its "measured" approach.

Compared with a year earlier, the first quarter's unit labor costs were still down 0.8 percent.

"The fact labor costs are starting to swing (on a quarterly basis) in the direction of normalizing is not an inflation threat," Glassman said.

Wages have been soft through the recovery because the job market, equally, has been weak. The unemployment rate, at 5.6 percent in June, is stuck where it was in November 2001, and the Boston Federal Reserve estimates the economy is about 5 million jobs short of full employment.

Meanwhile, corporate profit data, released by the Bureau of Economic Analysis, showed profits were at a record $1.2 trillion in the first quarter. After taxes, profits soared 37.7 percent from a year earlier, the biggest jump since 1984.

Glassman said the clearest indicator that labor has yet to share in the recovery is that corporate profit margins are at a record. "That tells you everything you need to know."

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