NEW YORK (Reuters) – Euro zone companies are finally absorbing wage pressures and the labour market has started to soften, European Central Bank chief economist Philip Lane said on Thursday, suggesting inflation pressures from employee pay rises are finally subsiding.
The ECB raised its deposit rate to a record high 4% last week to combat excessive inflation but an exceptionally tight labour market has kept upward pressure on wages, raising the upside risk on consumer prices.
While far from declaring victory over inflation, Lane argued there were tentative signs that wage pressures may be softening, potentially easing fears of some conservative policymakers who are keeping further rate hikes on the table.
“The contribution of unit profits to annual inflation in the first half of 2023 has moderated relative to its contribution in 2022, suggesting that the rising wage pressures are starting to be absorbed by firms,” Lane said in a speech in New York.
“Price hikes coming in below the increase in unit labour costs are projected to contribute further to the required disinflation during 2024,” he told the Money Marketeers of New York University.
While jobless rates are holding at record lows, a paradox for some given surging borrowing costs and a stagnant economy, Lane said a change may be underway.
“The labour market has so far remained resilient despite the slowing economy but shows signs of losing momentum,” he said.
Although Lane repeated the bank’s standard guidance which does not rule out a further hike, he added that a “range of model-based simulations” done by the ECB suggest the bank has done enough.
While markets price no further rate hikes from the ECB and expect a cut early next summer, conservative policymakers were out in force on Thursday to argue that another hike was still a possibility.
Not taking a side in this debate, Lane said uncertainty was exceptionally high and it could be well into 2024 before the ECB has the necessary visibility over wage trends, a prerequisite in determining if inflation was heading back to target.
Euro zone inflation was at 5.2% in August, well above the ECB’s 2% target. The bank projects inflation holding above 3% next year and sees it below 2% only in the final quarter of 2025.
In response to audience questions, Lane noted high levels of inflation are a very negative force for an economy, while he declined to speculate what lies next for his bank’s monetary policy.
“Inflation is horrible, it’s really costly, people hate it,” Lane said. He said the ECB’s objective is to hit its 2% target in the medium term.
Lane’s comment echoed that of Federal Reserve Chairman Jerome Powell, who said Wednesday after a meeting where the central bank held its short-term interest rate target steady, that when it comes to price pressures, “people hate inflation, hate it. And that causes people to say the economy is terrible” even when they are continuing to spend money.
Lane wouldn’t say what’s next for ECB policy but he said changes in interest rates are the most “efficient” way to affect the economy relative to balance sheet actions.
(Reporting by Michael Derby; Writing by Balazs Koranyi; Editing by Lincoln Feast and Christopher Cushing)