Employee Cost Index (ECI)

By Ryan Barnes

Release Date:	The last Thursday of April, July, November and January
Release Time:	8:30am Eastern Standard Time
Coverage:	Previous Quarter
Released By:	Bureau of Labor and Statistics (BLS)
Latest Release:	http://stats.bls.gov/news.release/eci.nr0.htm

Background
The Employment Cost Index (ECI) is a quarterly report of compensation costs that is released in the final month of the quarter, with a cutoff date of payroll periods ending the twelfth of the month of the release. The ECI is an index-based indicator that presents the changes in wages, bonuses and benefits from the previous quarter, displayed on a per-hour basis. All non-farm industries are covered, with the exception of federal government employees (which only make up 2-3% of the work force).

The data is provided by the Bureau of Labor Statistics (BLS) and is broken down by industry group, occupation and union vs. non-union workers. The data is compiled through separate surveys of non-farm businesses (about 4,500 sampled) and state and local governments (about 1,000 sampled). The index has a base weighting of 100. The current base period is December 2005.

What it Means for Investors
The ECI is watched primarily for its inflationary insights. Compensation costs represent the lion's share of the total cost for a company to produce a product or deliver a service in the marketplace (and can be computed per company by dividing cost of goods sold (COGS) by selling, general & administrative expense (SG&A) on the company's income statement). The relative percentages of COGS will vary by industry, making the data release valuable on an inter-industry level.

The ECI is used by the Federal Reserve to set monetary policy; as the Fed has publicly stated, it prefers the value of this release to the Employment Situation Report's hourly cost figures, which just include wages. Another benefit of the methodology used in the ECI is that wage changes that occur as a result of a shift in the occupational mix of workers can be captured here using a "basket of occupations" approach similar to that of the CPI. Results of the ECI are less likely to be affected by people shifting to lower or higher-paying jobs.

The ECI is a lagging indicator; rising costs at this level speak to economic overheating that has already been visible at earlier points in the economic food chain (commodity costs, retail sales, gross domestic product), and suggest that some rise in inflation is inevitable.

This indicator can move the markets if it shows marked differences from street estimates. Economists and Fed watchers are always on the lookout for surprise signs of inflation, and anything that changes the common perceptions on Wall Street as to the level of inflation will move the bond markets immediately, and stocks will react according to its recent performance relative to economic growth prospects. The deeper into the business cycle the economy is, the more likely it will be for stocks to sell off on fears of Fed rate cuts, and possibly the end of the growth phase within the current cycle.

Rising compensation costs are usually passed on to consumers because they are such a large corporate expense.

The ECI is used as part of the formula that calculates productivity. If productivity gains are less than proportional ECI gains, there won't be the necessary balance to keeping end prices to consumers down. Investors should always compare the ECI to total productivity figures, paying particular attention to relative rates within industries in which they have a stake.

Strengths:

• The ECI calculates the total set of employee costs to businesses, not just wages. Health insurance, pensions and death-benefit plans, and bonuses are all calculated here and broken out separately from wages and salaries.
• Data is provided with and without a seasonal adjustment.
• Well respected by both the Fed and business leaders; company managers use the ECI to compare their own compensation costs relative to their industries
• Rates of change are showed from the previous quarter and on a year-over-year basis.

Weaknesses:

• The data is only released quarterly, and with a slight overlap, covering a mid-month period.
• Hourly earnings shown in the monthly Employment Situation Report provide some headway into this release, taking some of the surprise value out of wages.
• Can be volatile when periodic bonuses, commission payments and the like are taken into account (especially at year-end); economist interpretation is often needed to fully digest the report.

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