The Trump administration is betting that wages can rise without sparking runaway inflation, but the world's leading bond manager isn't so sure.
Fed policymakers and Wall Street economists have been in a hot debate over inflation, with minutes from the most recent Federal Open Market Committee meeting showing that members were divided over the current trend.
Investors, meanwhile, recoiled earlier this month when Labor Department data showed that average hourly earnings over the past year rose at a 2.9 percent pace, the most since the Great Recession.
The question for markets is whether wages can rise at a healthy pace without triggering broader inflation concerns. Stock market indexes briefly went into a correction after the wage data and the accompanying inflation fears, which are primarily that the Fed will be forced to raise interest rates more quickly than anticipated.
In a tweet Friday morning, Jeffrey Gundlach, billionaire founder of DoubleLine Capital, expressed doubt that income can rise appreciably without causing inflation pressures.
According to Gundlach's thinking, rising wages can hurt either way — by cutting into profits if inflation doesn't rise, or by pushing bond yields higher with a rise in inflation, which in turn would hurt stock valuations.
White House officials are leaning toward the scenario where wages rise without inflation.
"There are a lot of ways to have the economy grow," Treasury Secretary Steven Mnuchin told Bloomberg in an interview Thursday. "You can have wage inflation and not necessarily have inflation concerns in general."
Markets have been nervous over how the scenario plays out. In addition to the stock market drop, government bond yields have spiked in recent days, with the benchmark 10-year Treasury note edging closer to 3 percent, considered a critical point.
Fed officials discussed the issue in January, though that was days before the report on wage growth. According to the minutes, Fed officials still tend to adhere to the Phillips curve, which shows that higher wages generally do come with higher inflation.
However, investors may not need to confront the question anytime soon. Strategists at Bank of America Merrill Lynch say the trend, if it does happen, is generally slow to develop.
"While rising interest rates could eventually hurt margins, the impact should be gradual as large cap debt is mostly long-term and fixed-rate," the firm said in a note this week.