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Wage increases in Romania’s public sector stood at 23.4% year-on-year, while in the private sector are at 11.8% y-o-y.
Wage increases in Romania’s public sector stood at 23.4% year-on-year, while in the private sector are at 11.8% y-o-y.

ECB Says Wage Growth Signals Inflation Will Return

The ECB is on the lookout for signs that inflation pressures are building as it prepares to end its bond buying plan later this year

ECB Says Wage Growth Signals Inflation Will Return

The recent acceleration in wage growth in the eurozone is a harbinger of higher future inflation, the European Central Bank said on Tuesday.

The article in the ECB’s Economic Bulletin seeks to dispel concern that pay rises have lost their signaling function for future price gains. While wage increases in the 19-nation currency area have picked up in the last two years, they have largely been offset by productivity gains, keeping unit labor costs flat, Bloomberg reported.

The ECB is on the lookout for signs that inflation pressures are building as it prepares to end its bond buying plan later this year. While a pickup in energy prices has pushed price gains above policymakers’ goal for now, officials expect an “ongoing solid and broad-based economic growth” that will bolster wages and produce the right kind of inflation down the line.

To assess the pass through from pay growth to inflation, ECB researchers ran a model to see how wages and unit labor costs respond to a demand shock and how this shock impacts the GDP deflator—a measure of inflation within the economy.

According to their findings, in a demand-driven shock “the upward price pressures are initially only correctly signaled by compensation per employee, while unit labor cost developments in the first few quarters even provide contradictory signals.” That differs from a supply shock, where the increase in unit labor costs is immediate.

“The constellation of developments in the components of the GDP deflator over the past two years resembles that of a more demand-driven pick-up in wages,” the article said. “This is in line with the strong output and employment growth observed in recent quarters, and implies that the increase in wage growth reflects the relevant signal concerning upward cost pressures on underlying inflation.”

Payment System Drop

Germany's Bundesbank’s claims towards other eurozone central banks fell sharply last month, data showed on Tuesday, confirming policymakers’ comments that flows in the currency bloc’s payment system were not indicating increased stress.

The German central bank’s Target 2 balance fell to €913.2 billion ($1.05 trillion) at the end of July from 976.3 billion in June, suggesting that technical factors at least in part accounted for the sharp increase in the previous month, Reuters reported.

Rising German claims during the bloc’s debt crisis indicated that confidence in states on its periphery was waning as investors moved their cash north to safe-haven markets from the likes of Italy, Spain and Portugal.

The ECB has long insisted that this time was different as rising German claims were primarily a factor of its €2.6 trillion ($3 trillion) asset purchase program, the hallmark monetary policy tool aimed at reviving growth and inflation.

As foreign investors tend to hold accounts in Germany, their sales of various euroland bonds will show up as a Bundesbank claim against other central banks, a technicality that does not suggest broader capital flight.

Still, concerns have been rising recently as the Bank of Italy’s liabilities in Target 2, which settles cross-border payments in the eurozone, have increased sharply, just as a populist government took power, setting off market volatility.

The ECB will end its bond purchases by the close of the year and has argued that Target 2 imbalances will slowly correct thereafter.

Meanwhile, wage increases in Romania's public sector stood at 23.4% year-on-year, while pay rises in the private sector are at 11.8% YoY. A tight labor market with an unemployment rate near historical lows, labor market frictions, lack of reforms, migration and public wage policy are the main drivers for this wage growth, ING reported.

Despite a flatter Phillips curve, the tight labor market remains a factor for upside risks to the inflation outlook. Hence, it is  expected that the National Bank of Romania raise its key rate twice, by 25 basis points each, ahead of the first ECB rate hike.

 

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