Trying to Parse the pre-"Liberation Day" Wage/Inflation Dynamics
Goods inflation was already accelerating while job churn had stopped falling. Also: watch out for upward revisions to healthcare inflation.
I recently had the chance to chat with Ian Masters of Background Briefing to discuss the current U.S. administration’s approach to trade, the likely consequences, and my preferred alternatives. Check it out!
The hard data on prices, incomes, and the job market are out of date and backward-looking, but they are still useful for providing baseline information about the state of the economy before the surge in uncertainty associated with the current administration began.1 The information currently available runs through February, and it unsurprisingly paints a picture consistent with what we had been observing before the election:
Underlying inflation is still running about 1-1.5 percentage points faster than normal, thanks both to excessive inflation in supercore services and goods. Goods inflation had been accelerating, while services inflation had been slowing, although that is partly an illusion thanks to issues with healthcare inflation.
Income growth is slowing somewhat, but is still persistently faster than pre-pandemic, consistent with the modestly faster-than-target inflation.
Job churn has stabilized below where it was before the pandemic, consistent with the collapse in relative wage gains for job-switchers over job-seekers, but there is still a large gap between actual labor churn and what would be expected based on the pace of wage growth.
Inflation Still Stubborn
The Personal Consumption Expenditures (PCE) price index preferred by Federal Reserve officials rose by 4.1% at a yearly rate in the first two months of 2025 for which we have data. That is slower than in the first two months of 2024 (4.5%) and 2023 (5.2%) but still substantially faster than the average annualized 2-month change for the start of the year in 1994-2020 (2.2%). The picture is even clearer when excluding idiosyncratic, volatile, and imputed categories: the market-based PCE price index minus groceries, housing, energy, and motor vehicles and parts rose by 3.8% annualized in the first two months of 2025, compared to 3.8% in the first two months of 2024 and a longer-run pre-pandemic average of 1.2% for the first two months of the year.
This inflation persistence has several causes, but perhaps the most notable is the ongoing acceleration in core goods inflation, which does not seem to be obviously related to the threat of tariffs. (The biggest contributor to the recent pop was pharmaceuticals.)
Moreover, while supercore services inflation has been decelerating, the slowdown is currently being overstated thanks to measurement issues with healthcare prices.