What Does Inflation Mean for Hiring and Wages in 2023?

Inflation has slowed from its peak in mid-2022 but remains high and is continuing to put upward pressure on wages in a tight labor market. These trends may be reversing in a few months. As the Federal Reserve’s interest rate hikes go into full effect in 2023, an impending recession, job losses, and slower pace of inflation are expected to lessen the pressure on wage growth.

The current bout with inflation is characterized by a broad increase in prices and can be measured in several ways. The headline measure typically reported is the Consumer Price Index (CPI), which tracks prices for a static basket of goods and services. In June 2022, CPI peaked at 8.9% year-over-year (YoY), and has since slowed to 5.0% in March 2023 but remains at rates not seen recessions in 1990 and 2008. Removing volatile food and energy prices, CPI rose 5.6% YoY in March.

The Personal Consumption Expenditures (PCE) price index is another measure of inflation which includes changes consumers make in their purchases as prices rise, switching from higher price items to cheaper alternatives (for example, packing lunch instead of eating out). In February 2023, PCE rose 5.0% YoY, a decline from a high of 7.0% in June 2022. The Federal Reserve closely follows PCE excluding food and energy to track inflation, which rose 4.6% YoY in February.

As inflation becomes a more prominent factor in everyday decision-making, the expectations for wages that those measurement differences (from 4.6% for core PCE to 5.6% for core CPI) can represent significant differences in costs of hiring and retaining workers.

Under normal conditions, inflation of around 2% is consistent with the Federal Reserve’s goals for economic growth—when inflation is that low, it is not top of mind when making decisions about money. With relatively high inflation in a tight labor market, workers may demand higher wages to cover the rising costs of everyday purchases. Higher labor costs are then passed on to consumers through higher prices for goods and services, sending prices and wages into an upward spiral.

How can we break out of the spiral? The Federal Reserve raises the federal funds rate target, which then causes other interest rates to rise, in an attempt to decrease demand for goods and services. Higher rates make it more costly for businesses and home buyers to take out loans, slowing business expansions, automobile sales, and home purchases.

This cooling of inflation comes at the price of slowing the economy, possibly leading to a recession. Timing the slowdown to not trigger a recession–what the Federal Reserve is calling a “soft landing”—is difficult, as raising rates can take six to nine months or longer to ripple through the economy. In fact, in a news conference in September 2022, Federal Reserve Chair Jerome Powell said “the chances of a soft landing are likely to diminish.”

On top of this, he had already indicated that a brief slowdown in inflation will not be sufficient to start decreasing interest rates. In a speech at Jackson Hole in August, Chair Powell emphasized that the effort to bring down inflation will “bring some pain to households and businesses” and “require a sustained period of below-trend growth.” And the Federal Reserve has continued to raise rates, albeit at a slower pace, even in the uncertainty of the failure of Silicon Valley Bank and Signature Bank—as Governor Christopher Waller noted in a speech in April, “whether you measure inflation using the CPI or the Fed’s preferred measure of personal consumption expenditures, it is still much too high and so my job is not done.”

For hiring managers and jobseekers, this means you can expect a looser labor market than we’ve seen for the past several years as the economy cools down. That will likely translate into more labor available for hire, more competition for open jobs, and less pressure on wage growth.

Make sure you know the market rate to attract top talent with our 2023 Salary Guide or speak with an LHH expert about your hiring & retention needs.