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Lagging productivity growth in the EU could reverse the European Central Bank’s progress in bringing down inflation, a senior ECB official has warned as she recommended keeping monetary policy tight.
“[Slow productivity growth] increases the risk that firms may pass higher wages costs on to consumers, which could delay inflation returning to our 2 per cent target,” said Isabel Schnabel, one of the ECB’s most hawkish policymakers, in a speech on Friday at the European University Institute in Florence, Italy.
“In this environment, monetary policy needs to remain restrictive.”
The US has remained ahead of the EU in labour productivity since the mid-1980s, with the gap growing between the US and EU in the early 2000s as mass adoption of information technology took off.
The difference in unit labour cost, a measure of productivity, between the EU and US has widened in the past year, as European wages have risen in a stagnant eurozone economy that has been battered by the fallout from Russia’s invasion of Ukraine two years ago.
“On the back of two inflation shocks, the eurozone is an economy where people are still being paid and paid more. What is happening is that a lot of people are working but GDP is low, so as a result the output per worker is falling,” said Claus Vistesen, chief eurozone economist at Pantheon Macroeconomics. “That is inflationary.”
In her speech, Schnabel called on the EU to reduce regulations that she said make it hard for companies to grow, and emphasised the need for lower barriers to entry so that new innovative businesses could better compete with established players.
Many experts agree that regulatory restrictions are holding back productivity growth in the eurozone.
Recent population projections from Eurostat forecast that the EU will decline 3.5 per cent by 2070, with notable decreases in the working age and young populations. The old-age dependency ratio in the EU, or the number of people aged above 65 relative to the working age population, will increase from 37 per cent in 2022 to 60 per cent in 2070.
There will therefore be fewer total EU workers and fewer workers relative to the total population, and they will need to increase their output per hour to continue meeting demand and shore up the social system, analysts said.
Data released this week showed that the eurozone economy flatlined in the last quarter of 2023, while the number of corporate bankruptcies increased 0.6 per cent in the same period.
Many economists view Europe’s productivity challenge as a long-term issue, not one that can be quickly solved to ease rising prices today.
“If you are looking for a solution to Europe’s inflation problems at the moment, it is not going to be a pick-up in productivity. But that will come over the longer term,” said Paul Mortimer-Lee, an economist at the National Institute of Economic and Social Research based in New York.
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