Bundesbank: Second-Round Effects From Wages To Keep Inflation Above 2% for Extended Period

20 February 2023

By Xavier D’Arcy – FRANKFURT (Econostream) – Underlying inflation pressures are likely to remain persistent in the euro area, with wage increases leading to second-round effects on prices, the German Bundesbank said on Monday.

‘Underlying inflationary pressures may prove to be more persistent given the robust labour market situation and high wage growth’, the Bundesbank said in its latest monthly report.

According to the report, ‘marked second-round effects on prices are to be expected’ from recent wage rises, which will ‘help ensure that inflation remains well above the medium-term target of 2% for the euro area for an extended period of time.’

Recent German wage agreements were ‘significantly higher’ than in previous years, the Bundesbank said. Wage demands were ‘exceptionally high by historical standards’, and the impact of high rates of inflation was ‘already clearly discernible in the latest wage agreements.’

Underlying pressure on prices in Germany was ‘likely to decline only tentatively from an exceptionally high level over the next few months’, according to the report. The decline in German headline inflation in January might be due to a statistical quirk, it said, noting that ‘the HICP weighting scheme may have changed markedly as the further decline in inflation came as a surprise.’

The Bundesbank said that, ‘based on the old weighting scheme, a significant increase would have been expected’.

Although underlying inflationary pressures were likely to prove persistent, they ‘also slackened somewhat’ in the euro area in recent months, the report said, adding that ‘lower energy prices are likely to dampen inflation further.’

Economic momentum in the euro area was ‘weak’, the Bundesbank said, although ‘somewhat stronger than had been expected just a few weeks ago.’

For Germany, the short- term outlook was ‘more favourable at present than it was just a few months ago.’ Output in the manufacturing sector ‘remained more resilient than expected’, the report said, though ‘high inflation eroded consumer purchasing power and real sales in the retail sector dropped considerably.’

‘Private consumption is therefore likely to have contracted markedly’ in Germany, it concluded.

Economic output ‘is likely to be lower again in the first quarter of 2023 than in the previous quarter’, the Bundesbank predicted. Still, the picture was improving, according to the report, which said that ‘tensions in the energy markets and uncertainty have eased considerably.’

Overall for Germany, ‘there could be a gradual pick- up over the remainder of the year’, but ‘no major improvement is yet in sight’, the report said.

The Bundesbank monthly report concluded that ‘Germany’s economic output is likely to decline slightly on average in 2023 but perform a little better than expected in the December projection.’