Solving US Labor Shortages to Cool Inflation

There are many drivers of the currently elevated levels of inflation in the US. Rising wages is one of them. Two factors are fueling rising wages: 1) quits (i.e., the “Great Resignation”); and 2) labor shortages. Indeed, increasing wages is the first choice among C-suite executives to manage both problems. However, when firms raise wages, this increases input costs, which in the US, businesses are passing directly to the customer. The pass-through of costs raises consumer prices, which might prompt a third driver of wage increases: rapidly rising inflation. If prices rise too high and too quickly, workers may ask their bosses for raises. If employers comply, this raises input costs, which get passed onto the customer. This clearly becomes a circular system known as a wage-price spiral, which is very negative for the economy. 

The Fed is raising interest rates to control the actual level of inflation, temper inflation expectations, and avoid a wage-price spiral. However, businesses and governments can also help tamp down inflation and avoid a wage-price spiral. The answer is to solve the labor shortage problem. Indeed, a recession likely will temporarily reduce some of the demand for labor, but many sectors will continue to need workers over the next decade, even once the potentially impending recession is over. Labor shortages are a combination of a variety factors, including an aging labor force, an insufficient number of younger workers to replace retiring baby boomers, missing workers due to childcare and adult-care challenges, excluded workers (including the disabled and formerly incarcerated), tight job requirements (e.g., asking for a bachelor's degree when it is not needed), skills mismatches, and strict immigration policies. 

Businesses can certainly dangle higher wages in front of new and existing employees, but there is so much more that they can do. Firms can offer more benefits (e.g., health, 401K plans, paid leave, subsidized childcare); adopt remote work and flexible hours, training, and upskilling; offer promotions in lieu of wage increases; hire based on skills as opposed to education; and hire marginalized workers. Business can also automate tasks and engage in digital transformation to gain efficiencies lost from a lack of workers. All of these options either help with attraction and retention and/or help lower costs induced from lost productivity, replacing workers who quit, or from using technology. 

Governments can help end labor shortages and the inflation they induce with policy. Options include supporting businesses that offer paid leave or childcare benefits, expanding the EITC, reviewing and reforming occupational licensing requirements that may raise barriers to entry into a field or prevent someone from moving from state-to-state, reducing regulations (e.g., mandating truck drivers be 21 years or older), reforming Social Security to allow older workers to work longer, supporting training and education programs, and expanding learn-and-earn apprenticeships. The government can also expand immigration by improving the H-1 visa program and increasing the number of visas issued overall. 

Between the Fed, businesses, and governments, the US can tackle the US labor shortage challenge and help lower inflation along the way. 

For deeper dives into business and public policy options, see The US Labor Shortage: A Plan to Tackle the Challenge, A US Workforce Training Plan for the Postpandemic Economy, and Future Occupational Labor Shortages Risk Index.