May 2018

1. Regional Economic Outlook
May2018
Chapter 2
European Wage Dynamics andLabor MarketIntegration
E U R

2. Key Messages
✓ Improved labor markets across EU, yet divergent wage
growth in EU-15 and EU New Member States
✓ Key factors driving wages:
✓ EU-15: Inflation and inflation expectations, and sluggish
productivity
✓ NMS: tight labor markets and spillovers from integration in
EU
✓ Pass-through from wages to inflation is relatively small
✓ Policies:
✓ In the euro area, continued commitment to raising inflation
and inflation expectations to the inflation target
✓ In NMS, ramp up reforms to reduce skill mismatches and
support labor force participation
2

3. Why Wages?

4. 4
Labor market conditions have improved appreciably in the EU
Unemployment Rate
(Percent, seasonally adjusted)
EU15 NMS
4
5
6
7
8
9
10
11
12
13
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4
4
6
8
10
12
14
16
18
20
2001:Q4 03:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4

5. 5
But wage growth is sluggish in the EU-15 and strong in NMS
Nominal Wage Growth
(Year over year percent change, four-quarter average)
EU15 NMS
0
1
2
3
4
5
6
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4
-4
-2
0
2
4
6
8
10
12
14
16
2001:Q4 03:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4

6. 6
In EU-15, slow wage growth partly due to low inflation and
sluggish productivity
GDP Deflator Inflation
(Year over year percent change, four-quarter average)
Trend Labor Productivity
(Year over year percent change, four-quarter average)
0
1
2
3
4
5
6
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4

7. 7
In NMS, recent pick-up in wages coincides with firming up of
inflation
GDP Deflator Inflation
(Year over year percent change, four-quarter average)
Trend Labor Productivity
(Year over year percent change, four-quarter average)
-4
-2
0
2
4
6
8
10
12
14
16
2001:Q4 03:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4
1
2
3
4
5
6
7
2001:Q4 03:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4

8. 8
A variety of factors can affect wage growth, with
different policy implications
Wages
Slack
ProductivityInflation
Wages
Domestic factors
External factors

9. 9
Key Questions
1
How important are traditional factors—productivity, slack, inflation—for
wage dynamics? How do their roles differ across EU15 and NMS?
2
3
4
Given EU integration, how important are spillovers for wage dynamics?
Is there more slack than just captured by headline unemployment rate?
And what are their implications for wages?
What are the implications of wages for inflation?

10. Some New Angles to
Consider

11. 11
Extended measures of slack
Unemployment and Additional Slack
(Percent of active labor force)
EU15 NMS
0
2
4
6
8
10
12
14
16
18
20
Unemployment
Unemployment and additional slack
0
2
4
6
8
10
12
14
16
18
20

12. 12
European integration, creates spillovers in terms of labor supply
0
2
4
6
8
10
1990 95 2000 05 10 15 17
NMS to EU15 as percent of EU15 population
NMS to EU15 as percent of NMS population
Migration Stock
(Percent of population)

13. 13
EU Integration also creates spillovers in terms of labor
demand
European Union integration into Global Supply
Chains: Pan-European Supply Chains
Sensitivity of Labor Shortage Indicator to
External Conditions over time
-1.0
-0.5
0.0
0.5
1.0
1.5
2001 03 05 07 09 11 13 15 17
NMS, 25th percentile
NMS, 75th percentile
EU15, 25th Percentile
EU15, 75th Percentile
NMS median

14. 14
Wage Dynamics: External versus Domestic Factors
Variance Explained by Europe-wide, Group, and Country Factors
(Percent)
0
10
20
30
40
50
60
70
80
90
100
EU15 NMS Europe
Europe-wide Group Country

15. Analytical framework
Bring all Factors Together

16. • Wage Phillips curve is used to assess short-run dynamics in nominal wages
• Baseline wage Phillips Curve:
Δlog 𝑁𝑊 = 𝑎1 Δlog 𝑇𝑟𝑒𝑛𝑑 𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑣𝑖𝑡𝑦 + 𝑎2 𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 + 𝑎3 𝑈𝑛𝑒𝑚𝑝 𝑔𝑎𝑝
• Extended measures of slack
Δlog 𝑁𝑊 = 𝑎1 Δlog 𝑇𝑟𝑒𝑛𝑑 𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑣𝑖𝑡𝑦 + 𝑎2 𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 + 𝒂 𝟑 𝑵𝒐𝒏𝑼𝒏𝒆𝒎𝒑 𝒈𝒂𝒑
• Spillovers from foreign wages and slack, and migrant flows
Δlog 𝑁𝑊 = 𝑎1 Δlog 𝑇𝑟𝑒𝑛𝑑 𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑣𝑖𝑡𝑦 + 𝑎2 𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 + 𝑎3 𝑁𝑜𝑛𝑈𝑛𝑒𝑚𝑝 𝑔𝑎𝑝 +
+𝒂 𝟒 𝜟𝑬𝑨 𝑼𝒏𝒆𝒎𝒑 𝒓𝒂𝒕𝒆 + 𝒂 𝟓 𝜟𝐥𝐨𝐠 𝑬𝑨 𝑵𝑾 + 𝒂 𝟔 𝜟𝑴𝒊𝒈𝒓𝒂𝒏𝒕 𝒇𝒍𝒐𝒘𝒔
Analytical framework: Wage Phillips Curve

17. • Two groups of countries:
• Selected EU15: Austria, Belgium, France, Netherlands, Spain
• New Member States (NMS): Czech Republic, Estonia, Hungary, Lithuania, Latvia, Poland,
Slovenia, Slovak Republic
• Time span: quarterly 1995Q1-2017Q3
• Wage Measures:
• Total compensation including wages and salaries, non-wage benefits, and social
contributions
• Wage and salaries; and Labor cost index for robustness checks.
Sample

18. 18
The wage Phillips curve is alive and well: flat in selected EU-15
and steep in NMS
Sources: IMF staff calculations.
1/ Based on a panel regression that uses a broad measure of slack (non-employment gap). Selected EU-15 comprise Austria, Belgium, France, Germany, Netherlands, and Spain.
Wage Phillips Curve: New Member States 1/Wage Phillips Curve: Selected EU-15 1/
Wagegrowth
Unemployment gap
Slope = -0.4
Wagegrowth
Unemployment gap
Slope = -0.9

19. 19
In selected EU-15, low inflation, labor slack, and sluggish
productivity are weighing on wage
Contributions to Wage Growth: Selected EU-15, 2017
(Percentage point)
Source: IMF staff calculations.
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
Inflation
Residual and other
Domestic slack
Productivity
Actual
wage growth

20. For some smaller countries in EU15, long-run spillovers from
France and Germany are significant
0.0
0.2
0.4
0.6
0.8
1.0
1.2
Austria Netherlands Belgium
Productivity
Spillover from Germany
Spillover from France
Long-run Wage Relationship
(Elasticity coefficient)

21. 0
1
2
3
4
5
6
7
1
Spillover
Inflation
Productivity
Slack
Residual and
other
21
In NMS, tight labor markets and spillovers from EU integration will
push wages up
Source: IMF staff calculations.
New Member States: Contributions to Wage Growth, 2017
(Percentage point)
Inflation
Actual wage growth

22. Passthrough of Wages to
Inflation

23. • VAR model: 𝑌𝑡 = 𝑎0 + 𝐴1 𝑌𝑡−1 + 𝐴2 𝑌𝑡−3 + … + 𝐴 𝑝 𝑌𝑡−𝑝 + 𝜀𝑡 ,
where 𝑌𝑡= {Import prices, wages adjusted for trend productivity, inflation,
unemployment gap}.
• Identification: Cholesky identification with the variables ordered as above.
• Multivariate: assess the passthrough of wages to prices while controlling for endogenous
feedback effects with prices and slack.
• Dynamic: assess the dynamic impact of wages on inflation.
• Estimation: As a panel separately for EU15 and NMS.
Analytical framework: Vector autoregression (VAR) model

24. 24
Passthrough from Wages to Inflation: Dynamic profile
Impulse Response of Inflation to a Wage Shock: EU15
(Percentage points)
Source: IMF staff calculations.
-0.10
-0.05
0.00
0.05
0.10
0.15
0.20
1 2 3 4 5 6 7 8 9 1011121314151617181920
Quarters
-0.10
-0.05
0.00
0.05
0.10
0.15
0.20
1 2 3 4 5 6 7 8 9 1011121314151617181920
Quarters
Impulse Response of Inflation to a Wage Shock: NMS
(Percentage points)

25. 25
Passthrough from wages to inflation, while positive, is
relatively modest
Cumulative Impulse Response to a Wage Shock
(Three years cumulative, percentage points)
Source: IMF staff calculations.
Pass through Ratio of Wages to Inflation
(Three years cumulative, percent)
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
EU15 NMS
Inflation
Wage
0
5
10
15
20
25
30
EU15 NMS

26. Conclusions and Policy Implications
✓ The wage Phillips curve appears alive and well; broadly stable; flatter in EU-15
✓ Key factors driving wages:
✓ EU-15: Inflation and inflation expectations, and sluggish productivity
✓ NMS: tight labor markets and spillovers from integration in EU
✓ Pass-through from wages to inflation is relatively small
✓ Policies:
✓ In the euro area, continued commitment to raising inflation and inflation expectations
to the inflation target
✓ In NMS, ramp up reforms to reduce skill mismatches and support labor force
participation
26

27. Thank You

28. Appendix

29. 29
Wage growth is weaker than pre-crisis and divergent in EU-15
and NMS
Source: Eurostat.
0
2
4
6
8
10
12
14
16
2001Q4 2005Q4 2009Q4 2013Q4 2017Q4
New member states
EU-15
Nominal Wage Growth
(Percent change y/y in four-quarter averages)

30. 30
Real wages and productivity: EU15
Real Product Wage Growth
(Year over year percent change, four-quarter average)
Real Wage/Trend Labor Productivity
(Index; average for 2000–17 = 100)
-2
-1
0
1
2
3
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4
97
98
99
100
101
102
103
104
2000:Q1 02:Q3 05:Q1 07:Q3 10:Q1 12:Q3 15:Q1 17:Q4

31. 31
Real wages and productivity: NMS
Real Product Wage Growth
(Year over year percent change, four-quarter average)
Real Wage/Trend Labor Productivity
(Index; average for 2000–17 = 100)
-4
-2
0
2
4
6
8
10
2001:Q4 03:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4
93
94
95
96
97
98
99
100
101
102
103
104
105
106
107
108
2001:Q403:Q4 05:Q4 07:Q4 09:Q4 11:Q4 13:Q4 15:Q4 17:Q4

32. 32
Germany: Decomposition of wage growth in 2017
Contributions to Wage Growth: Germany, 2017
(Percentage point)
Source: IMF staff calculations.
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
Domestic slack
Residual and other
Inflation
Productivity
Actual wage growth

33. 33
Passthrough from wages to inflation, while positive, is relatively
modest.
Impulse Response of Inflation to a unit Wage Shock
(Percentage point, cumulative)
0.0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1.0
EU15 NMS
On impact
1 year
3 years