Euro Macro: Wage growth declines as labour market recovery slows – A further rise in wage growth is a key element behind the ECB’s view that inflationary pressures will build going forward. During last week’s press conference ECB president Draghi mentioned that ‘underlying inflation is expected to increase over the medium term supported by our monetary policy measures, the ongoing economic expansion and stronger wage growth’. Moreover, in the explanation for the forecasts for core inflation (to rise from 1.1% in 2019 to 1.4% in 2020 and 1.6% in 2021) in the ECB’s June staff macroeconomic projections, it is mentioned that ‘tightening labour markets will continue to support wage growth’. Still, it seems that, even under the ECB’s own scenario for economic growth (which is much more positive than our own) the central bank’s expectations for wage growth (rising from 2.1% in 2019, to 2.5% in 2020 and 2.5% in 2021) are rather optimistic.
Looking at the tightening of the labour market, the unemployment rate has continued to decline since the start of last year despite the fact that economic growth has slowed down to levels below the trend growth rate since then. Still, the pace of the fall in the unemployment rate has diminished. Whereas the decline compared to three months before was in the range of -0.3 to -0.4pps between the start of 2017 and the middle of 2018, it has fallen to a range of -0.1 to -0.2pps since then. On top of that, at its current level (7.6%) the unemployment rate still is somewhat above the lows from early 2008. More importantly, the broader U6 unemployment rate (at 16.1% in 2018Q4) still is more than a full percentage point above its pre-crisis low of early 2008, while the pace of its decline has also slowed down since 2018Q2. Going forward, we think that ongoing weak economic growth will lead to a rise in unemployment.
Turning to wage growth, the definition used by the ECB in its own projections (compensation per employee) includes changes in social security payments by employers and, therefore, can be influenced by policy changes. This measure stabilised at 2.2% yoy in 2019Q1, after had peaked at 2.5% in 2018Q3. An ECB measure for wage growth excluding the impact of tax changes is negotiated wages. This has been roughly stable at around 2.1-2.2% since the middle of 2018, after it accelerated in 2018Q1 and 2018Q2. All in all, both the decline in labour market slack as well as the rise in wage growth have slowed down significantly since the middle of 2018. Combined with the fact that the ECB expects quarterly GDP growth to be below the trend rate in 2019Q2 and Q3 (it expects 0.2% and 0.3% qoq, respectively) and to remain at the trend rate thereafter it seems that its forecast that wage growth will pick up next year will not materialize. In fact, our own forecasts for GDP growth are lower than the ECB’s and we expect wage growth to slow down. (Aline Schuiling)
US Macro: Another weak CPI print bolsters case for Fed cuts – CPI inflation printed to the downside in May, with the core measure rising 0.1% mom (ABN/consensus: 0.2%) – the fourth downside surprise so far this year. Annual inflation came in at a healthier 2.0% yoy, albeit still below our and consensus expectations (2.1%). The weakness was driven by similar factors behind previous weak prints – apparel (which is being affected by a methodological change), drugs (affected by increased approval of generics), and used cars (caused by a supply glut). As a result, momentum in core inflation – the 3m/3m annualised rate – fell to just 1.7% in May, the lowest since mid-2017 when inflation was reduced by the fall in mobile phone tariff rates. While Fed Chair Powell has been rather dismissive of the weakness in inflation, pointing for instance to the Dallas Fed’s trimmed mean measure (which has been relatively stable near 2% annualised), the ongoing weakness in inflation bolsters the case for the Fed to ease monetary policy given the weaker growth outlook and falling market-based measures of inflation expectations. We continue to expect the Fed to cut rates three times by Q1 2020, starting at the July FOMC meeting. (Bill Diviney)