ECB’s Lagarde Sees Wages Gain Importance as Inflation Driver

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(Bloomberg) — European Central Bank President Christine Lagarde said rising salaries are becoming an ever-more significant factor as policymakers assess when they can begin lowering interest rates.

While disinflation is set to continue gradually in 2024, Lagarde told European Union lawmakers Thursday in Brussels that risks remain and policymakers need more assurance that price gains are headed back to the 2% target.

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“Wage growth continues to be strong and is expected to become an increasingly important driver of inflation dynamics in the coming quarters,” she said. “The contribution of unit profits to domestic price pressures continued to decline, suggesting that, as expected, wage increases are at least in part buffered by profit margins.”

The remarks come as several of the world’s major central banks debate when they can safely start reversing the rate hikes they enacted to put a lid on inflation — without reigniting prices once again.

Officials in Frankfurt appear torn between an initial cut in April or June, though a majority has publicly backed the later date, keen to get more clarity on the development of salaries and corporate profits in the 20-nation euro zone.

German bonds extended small gains after Lagarde’s comments, sending 10-year yields to a one-week low of 2.30%, while money markets raised wagers on the scope for rate cuts to firmly favor five quarter-point reductions this year instead of four, with the first poised to come by June.

Lagarde said that while the ECB’s forward-looking pay tracker continues to signal strong pressures, agreements indicate some leveling off in the last quarter of 2023.

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“Wage pressures for 2024 hinge particularly on the outcome of ongoing or upcoming negotiation rounds that affect a large share of euro area employees” over the next few months, she said.

What Bloomberg Economics Says…

“Market participants are focused on the timing of a reduction and the ECB has linked it to wage data. Several indicators point to a stabilization of or slight decline in cost pressure. Barring any surprises in the national accounts for the first quarter of this year, Bloomberg Economics continues to expect the first cut to occur in June.”

—David Powell and Maeva Cousin, economists. Click here for full INSIGHT

Executive Board member Isabel Schnabel recently warned against lowering borrowing costs too soon, citing sticky services inflation, a resilient labor market, looser financial conditions and Red Sea tensions as risk factors for prices.

On Wednesday, Bundesbank President Joachim Nagel said history suggests that it’s worse to loosen monetary policy too early than too late, warning of “a higher price in the end in economic terms” for moving prematurely.

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More dovish officials fret about delaying too long, though, wary of worsening the plight of the struggling economy and maybe even falling short of the 2% inflation goal that’s proved elusive since Covid lockdowns ended and Russia invaded Ukraine. Italy’s Fabio Panetta said at the weekend that policy easing will need to happen soon.

Many see inflation sinking more quickly than ECB projections currently suggest, with the headline number having plunged in 2023, though progress so far this year has been less notable.

“Core inflation — excluding energy and food — is declining gradually but its services component has shown signs of persistence,” Lagarde said.

The economy, meanwhile, narrowly avoided a recession in the second half of 2023: Eurostat data published Wednesday showed the euro zone stagnated in the fourth quarter after output fell by 0.1% during the previous period.

Its prospects are weak, however. Economists surveyed by Bloomberg predict only expansion of just 0.5% this year — the same rate as last year.

“Incoming data continue to signal subdued activity in the near term,” Lagarde said. “However, some forward-looking survey indicators point to a pick-up in the year ahead.”

—With assistance from Bastian Benrath and James Hirai.

(Updates with more comments from Lagarde starting in 13th paragraph.)

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