Eurozone inflation has got stuck in a low rut - HSBC

Karen Ward, Chief European Economist at HSBC, suggests that despite falling unemployment, the Eurozone’s wage growth seems to be stalling which is a further evidence that inflation has got stuck in a low rut.

Key Quotes

“Wage growth seems to be rolling over: Despite a fall in unemployment, wage growth seems to be slowing. This is a worrying development because the ECB are looking for an acceleration in pay growth. Rising nominal wage growth would support consumer spending as the boost from falling oil prices fades. And in lifting both nominal demand, and potentially corporate costs, it would act as a major milestone in the ECB’s fight to bring HICP inflation back to target of below but close to 2%. No wonder Mr Draghi discussed the ‘undisputable benefits of higher wages’ in the September ECB press conference. In our view, there are three major reasons that wage growth is slowing. First, nominal demand is still subdued and firms don’t have pricing power. Now that energy prices have picked up again, they are pushing back on labour cost growth. Second, the fall in the unemployment rate may not reflect the true amount of slack in the labour market. Third, we believe that households and corporates are adjusting to a new lower equilibrium rate of inflation.

If wage growth doesn’t ‘normalise’, neither will HICP inflation: We fear that all of these factors will continue to act as a drag on inflation for some time. As such, we think the ECB will have to keep pushing out the horizon over which it expects wage growth to return to ‘normal’ levels. In which case, the forecast for when inflation will return to target will also keep getting pushed out. We expect inflation in 2017 to be 0.9%, below consensus (1.3%) and the ECB (1.2%).”