Lagarde’s mistake on salaries that could paralyze rate cuts

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Lagarde's mistake on salaries that could paralyze rate cuts

Confidence in the future reduction of the interest rate of the European Central Bank is the focus of market bets, encouraged by a moderate inflation and the fact that the organization cannot allow its monetary policy to push the economy in the area euro through the abyss of recession. However, Christine Lagarde continued to send alarming messages of caution in the face of what she called “strength” in the labor market. An argument that reflects the fear of the head of the monetary policy to repeat what was one of his biggest mistakes in the diagnosis of this crisis.

The central bank’s concern about wages responds to the feared effects of the second phase, that is, that the increases in payrolls to combat inflation return to prices and represent a greater headache for companies when it comes to keeping the rythm. But this possibility is greatly aggravated by the current crisis of inflation, where a strange mismatch between the supply and demand for labor has led to workers having more power than ever to impose their conditions on employers. And companies are forced to raise their salary offers (and counteroffers) to sign talent to prevent them from leaving for the competition.

Until the middle of 2022, ECB officials expressed confidence that the structure of wage agreements will reduce this impact in the euro zone. The key is that in the Old Continent, centralized collective bargaining had greater weight, that is, between employers and unions, than between individual workers and companies, as happened in the United States. This means that wage fluctuations, expressed in terms of wage costs, will slow down more quickly.

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But there was a mistake in this calculation and after ten consecutive rate hikes, that peace was gone. No intervention by Christine Lagarde is without a warning about wages as its headline. Not even after the central bank stopped its monetary offensive in October in the face of evidence that most indicators, including the CPI, are moving in a positive direction and that monetary orthodoxy may be doing more harm than good to the economy in Europe.

Nevertheless, Lagarde continues to send alarming messages to those who do not pay attention that from here the rates can only retreat and reaffirm the fears that this new phase will be delayed ‘sine die’ .

A worrying development

It turns out that the agreements are doing exactly the opposite of what was expected. In 2023, the ECB’s negotiating salary indicator will record the largest year-on-year increase since 1993. In the third quarter it stood at 4.69%, three tenths higher than in the second quarter, when a year ago it was 2.62%. They have not increased much since the first quarter of 1993, when it stood at 5.9%. Those years were marked by the fall of the USSR and the integration of major economies into the monetary union as we know it today.

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Therefore, the two reference indicators for the ECB, salary costs and negotiation salary, grew in tandem, without a second slowing of the first. What’s more, so far this year it appears that, even if the costs start moderately small, the agreements are not. What does this mean?

The explanation is simple. The ECB may be right that the agreements absorb increases due to changes in the labor force and the ‘flight’ of workers, but it coincides with an inflationary crisis that has lasted for two years which simply does not prevent this from happening. , but that shook collective bargaining.

And if it raises wages too much, not only will it be harder to negotiate lower deals later, but these deals will affect the entire workforce, not just those threatening to leave. In fact, data for the third quarter suggest that the increase in negotiated salaries has already beaten inflation for the first time since the first quarter of 2021, although the increase is now more than three percentage points higher. higher than before.

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A ‘trap’ that does not occur in more liberal labor markets such as the United States, although there the companies that must comply with the agreements also face problems and once again establish a There are some parallels between the problems of the Fed and the ECB, however. the reasons are very different. The president of the central bank of the US, Jerome Powell, also spoke about the resistance to wages as a factor that does not invite optimism about the reduction of the rate.

In the case of the euro zone, what prevails is the fear of misdiagnosing the labor market again. There are many analysts who say that labor market tensions respond to deeper structural factors, such as the aging of the active population, that no monetary policy can correct. But, in turn, it has an effect on wages and labor costs, and therefore on prices. That threatens to undermine the principles of orthodoxy in monetary policy followed by the ECB in the last two years.