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Best wage growth in 7 years pushes the Fed toward a December rate hike

Federal Reserve Board Chair Janet Yellen.
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Federal Reserve Board Chair Janet Yellen.

Wages rose more in October than any time since the economic recovery began, a sign that the labor market is tightening and the Fed should be on course to raise interest rates in December.

On a year-over-year basis, wage growth of 2.8 percent is the highest since mid-2009. Job growth of 161,000 in October fell short of the 175,000 expected, but September jobs were revised 35,000 higher to 191,000, and the three-month average rose to 176,000.

"It's good data, the fastest wage growth we've seen this entire cycle," said Ward McCarthy, chief financial economist at Jefferies. "The Fed should have gone this week ... they are well on their way to their objective, and this data is just the latest in a number of data releases that should compel them to get on with it."

Policymakers this week declined to raise interest rates, but the Fed is widely expected to raise rates in December for the second time in 10 years, barring serious changes in market conditions or the economy. Economists have said the Fed would probably hold off if the outcome of Tuesday's election creates market turbulence.

The labor market has been one bright spot for the Fed, with steady job growth and a return of discouraged workers. But the sought-after inflation level has been elusive, with personal consumption expenditures inflation at 1.7 percent, falling short of the Fed's 2 percent goal. A move higher in wages is a sign that inflation is picking up, and inflation along with employment comprise the Fed's dual mandates.

"The economy has been moving along through the recovery for quite some time, but we never had any wage pressure, mostly because of the slack in employment. Now that we have tightness in the labor market — it shows you're in the later stages of the employment cycle," said Luke Tilley, chief economist at Wilmington Trust. Tilley expects the Fed to raise interest rates in December and then twice next year.

He also expects wages to continue their rise.

"We had a pickup in labor force participation because there are more people moving into the labor market than there have been jobs added," he said. Tilley said 2.6 million people joined the labor force in the past year, but only 2.4 million jobs were added. He said some of the problem is a skills mismatch, and that companies are finding it difficult to hire qualified workers.

Credit Suisse economists agree that wage growth will continue to rise, and they forecast a pace of 3 to 3.5 percent in the medium term.

Economists had expected average hourly earnings to rise 0.3 percent in October, but they rose 0.4 percent, or 2.8 percent year over year.