[This article is the first in a three-part series. Part two will focus on inflation and health care. Part three will discuss inflation and retirement savings.]

Rising inflation, if it’s sustained, would alter employers’ anticipated benefits and compensation costs in upcoming years.

Increased federal unemployment payments through September
have reduced the labor supply and helped to push wages higher, many economists believe. In addition, disruptions within supply chains as economies and societies reopen at different rates have brought “inflationary pressures on prices and perhaps on wages,” said Catherine Hartmann, North America rewards practice leader at Willis Towers Watson.

“We are not yet certain if this will be a more temporary or longer-term phenomenon,” she added. While some economists expect the recent surge in prices to moderate, they warn that inflation may still be significantly higher this year and next—and over the coming years. As inflation takes hold, employers will need to revise their anticipated budgets and planning for employee compensation.

Evidence of Rising Prices—and Wages

According to the Federal Reserve Bank of New York,
the average lowest wage that U.S. job seekers would be willing to accept for a new job was $71,403 in March 2021, up from $61,737 in March 2020 (at the start of pandemic lockdowns) and $62,365 in March 2019. The findings are from the New York Fed’s ongoing Survey of Consumer Expectations (SCE) labor market survey, with approximately 1,000 respondents.

Along with labor shortages, rising inflation is helping to drive compensation higher. For instance:

The consumer price index (CPI) in May rose 5 percent from 12 months earlier, which is the largest yearly gain since August 2008,
the Labor Department reported on June 10. In comparison, the CPI
rose 1.6 percent year-over-year for 2020.
From April to May, the CPI grew 0.6 percent, representing the second-largest month-over-month advance in over a decade.

On June 18, the Federal Reserve Bank of St. Louis President James Bullard said
the economy is seeing more inflation than he and his colleagues had expected, which could lead to an interest rate increase late next year, Bloomberg reported.

While the CPI measures a fixed basket of goods, the St. Louis Fed’s preferred price measure, the personal consumption expenditures (PCE) index, takes into account consumption changes that people make as prices rise—such as substituting chicken for beef. As a result, the CPI tends to report higher inflation.

Core PCE prices in the U.S., which exclude volatile food and energy cost,
increased 3.1 percent year over year in April, the highest rate since the 1990s.

Bullard foresees 3 percent core PCE inflation for 2021, moderating to 2.5 percent in 2022, Bloomberg reports. Even so, “If that’s what you think is going to happen, then by the time you get to the end of 2022, you’d already have two years of 2.5 to 3 percent inflation,” he said, up from
1.4 percent core PCE inflation in 2020.

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Pay Raise Expectations

How large a pay raise might employees be expecting, just to keep pace with rising prices?

Trading Economics, an online platform that provides historical data and economic forecasts, projects that the long-term
U.S. wage and salary growth to trend around 3.6 percent in 2022 and 4.0 percent in 2023, according to its econometric models.

Another signal: While the Social Security cost of living adjustment (COLA) for retirees was 1.3 percent for 2021,
Kiplinger reports it’s
likely to tick up to 4.5 percent next year, the largest increase since 2008.

That’s an indication of what employees also might be looking to receive—especially if they saw no raise in 2020 due to the pandemic’s disruption of business revenues.

Compensation Considerations

Still, unanswered questions could effect employers’ strategic planning around compensation, Hartmann noted, such as:

Does the inflation we are now seeing have the potential to slow down by the fall, as supply and demand issues are resolved, or will inflation continue through the end of the year?
Will the cost of labor increase because supply issues will continue for talent at particular levels and professions regardless of inflation?

At the moment, she added, “we are seeing these factors impact the compensation for lower-level hourly workers. The recent publicly announced increases in starting hourly rates being provided within the food service industry, manufacturing environments and banking are leading to these workers receiving higher base salaries.”

Employers that cannot afford to immediately increase starting pay levels may need to phase in hourly wage raises, “with $1 to $2 increases every three to six months as a retention tool,” she advised.

For professional and management-level roles that are in high demand, “we are seeing an increase in retention bonuses and sign-on bonuses to either keep or lure away workers,” she said.

The increase in employee bargaining power, Hartmann noted, “could be long-lasting. However, whether the current spike in inflation has the opportunity to impact salaries further remains to be seen.”

Rich Luss, a senior economist at Willis Towers Watson, observed that “in the long run, employees are paid approximately what they are contributing to the organization. If demand for labor remains high and supply growth is sluggish, we would expect organizations to feel the pressure to increase compensation to attract the employees they need—or to increase automation.”

Rising prices also will require employers to revisit their total rewards strategy, as “there is still the question of how compensation is paid,” Luss explained. “The answer companies come to will depend on the rate of inflation in health care costs versus other prices, versus productivity growth.”

Those factors, he added, will affect how much of rising total compensation “is reflected in increases in salaries or hourly rates, and how much shows up in increased employee benefits.”

[The second part of this series, How Rising Inflation Will Affect Health Care Costs, will be posted shortly.]

Originally found on SHRM Read More