The Real Surprise from December's Jobs Report

A recent Wall Street Journal headline offers a succinct summary of the newest employment data: "Job Growth Slows in December; Wages Post Best Gain Since 2009." Yes, as expected given the spike in global economic uncertainty and the correlation between that and decisions to hire, employment growth slowed in December 2016 and the unemployment rate nudged up just slightly. With economic policy uncertainty continuing to trek skyward, we should expect to see even slower employment growth for a few months, at least until the new Trump team provides more answers than questions about policy actions.

But the relatively weak December job growth was not the major story. The prize for that went to the 2.9 percent year-over-year increase in wages, which trumped December 2015's 2.6 percent growth rate.

Though surely appreciated by working families, the higher wage growth points to the beginning of an inflationary path that will become a defining element of the 2017-2018 economy. Yes, though at a low level and surely not enough to set off alarms, inflation is back in the game.

Just to make it clear, we should remember that rising wages do not cause inflation. Their northward move reflects growing scarcity of skilled workers backed by growth in the amount of circulating money that fuels economic activity. After all, the term "inflation" refers to inflating the supply of money in the economy.

Bank lending, the source of new money entering the economy, is on the rise. The banking system's massive capability for making more loans, based on having ample reserves on deposit with the Federal Reserve, tells us that more money, and more inflation, is on the way.

But not so fast. What about all those workers who seem to be waiting on the sidelines for the wonderful world of work to beckon? Doesn't the low labor participation rate suggest that we might have an inflation shock absorber capable of softening a pending inflation surge?

Maybe. In fact, we are already seeing a small labor participation rate increase. Most likely, however, a large part of the non-participating labor force is actually "employed."

Evidence of growth of the underground economy provided by the per capita count of $100 bills circulating in the economy supports the notion that the cash economy is booming. Coupling the unknown count of shadow economy workers with the more than 8 million now drawing Social Security disability benefits, up by 1.7 million since 2007, yields a very different labor participation rate story.

Yes, this is the time to keep our interest rate seat belts fastened and our inflation trays in a secure, upright position. We can expect to see the Federal Reserve deliver on its promise to raise rates three times in the next 12 months. Higher wages and more inflation lie in the offing.