ECB Should Be Attentive to Risks of Wage-Price Spiral, Schnabel Says
21 June 2023
By Xavier D’Arcy – FRANKFURT (Econostream) – The European Central Bank should pay heed to the risk of a wage-price spiral in the context of record labour market tightness, ECB Executive Board member Isabel Schnabel said on Wednesday.
Speaking on a panel in Berlin, she said that it was essential that firms absorb increased wage demands in their profit margins, which had increased in the wake of the pandemic and the energy crisis.
The labour market was ‘so incredibly strong’, raising the bargaining power of workers, she said. ‘If then the wages are even increasing faster than we thought […] then I think there is a risk that this could turn into a wage-price spiral, and this is why we have to be very attentive and have to monitor this very carefully.’
‘If you look at our most recent staff projections, you can see that there, the assumption is that firms are going to absorb the largest part of this increase in wage costs, in particular, through their profit margins’, she said. ‘But of course, that is uncertain, and so there are risks to this assumption that absorption is going to take to take place.’
In the wake of the energy crisis and other price shocks, ‘firms were not only able to pass through these high costs, but actually, they were even able to increase their profits at the same time’, she said. This was made possible by a ‘massive demand-supply imbalance’, driven by ‘supply side constraints’ and ‘a strong growth in in demand’, which was ‘fostered by accumulated savings, by fiscal policy and also by monetary policy’.
‘Basically this demand-supply imbalance made it easier for firms to raise the prices’, she said. In response to the price shock, it was logical that workers would seek to recoup the value of their wages in real terms, she commented.
Whether firms would absorb this increase in wages in their profit margins or be able pass it on to consumers, ‘depends on the general economic environment, this depends on aggregate demand, and this depends on monetary policy’, she said.
‘So monetary policy works by dampening the growth in aggregate demand. And what this does is that it becomes harder for firms to pass on the costs. But it also becomes harder for the unions to push through their high wage demands. And then this breaks what President Lagarde called the “tit-for-tat dynamics” that could potentially lead to this wage-price spiral.’