Inflation and wage indexation must coexist
After years of fluctuations around targets, inflation in the Albanian economy, as well as in the countries of the Balkan region is the highest it has been in the last 15-20 years, suffering two major shocks: the impact of the pandemic and the Russia-Ukraine war.
While in Albania, the price increase marked a level of 5.7% in March 2022, in the markets of the Balkan countries inflation accelerated even more, where in Kosovo it was 7.5%, in Serbia was 8.8%, in Bosnia-Herzegovina was 6.9%, in Montenegro was 9.7% and in in North Macedonia it was 7.6%, with an average increase for WB6 of 7.7%. The rise in inflation was initially driven by rising energy and food prices, but became broader, reflecting the inertia of monetary policy and the indexation / the increase of minimum wages or other wages, as well as a strong recovery of demand, initially for goods, but later also for services.
In this reality of rising inflation beyond forecasts, where price indexation must follow the logic of growth over opportunities to increase income, it would be very valuable that in employment contracts, a nationwide initiative in Albania, Kosovo and in every other neighbor country to them, to regulate wages increase by being indexed automatically along with inflation.
Indexing will make “living with inflation” less costly. The costs and inequalities that are beginning to build up with inflation (along with other undeclared costs of informality, corruption and money laundering) will affect very little months later the redistribution of income according to a wrong way of redistributing resources and These governments, and the Central Banks cannot say that they are not related to unforeseen inflation.
Based on this argument, with proper labor indexation even inflation does not need to produce any significant social welfare costs.
Despite the considerable uncertainty surrounding most of the expected costs and benefits associated with implementing wage indexation, the oblique wage-price ratio will exist with or without indexation, but the size of this ratio may be affected by wage indexation.
Wage indexation can help alleviate inflation (by replacing current expected inflation rates), to counter balance the market and businesses in general high expectations for the next inflation rate, because if they have a level of automatic wage indexation implementation. immediately and without compromise will amortise the price of inflation.
In the conditions when in the labor market, both in the public sector and in the private one, these expectations in the employment contracts are unlikely to happen, then the indexation of the minimum wage, which has become a fact from the decisions of the governments recently in Albania with 6.6 % increase, Kosovo by 47% increase, Serbia by 9.4% increase, Montenegro by 202.7% increase, Northern Macedonia by 18% increase and Bosnia and Herzegovina by 9.2% increase may lead to an increase in the effectiveness of anti-inflation stabilization policy, such as:
– reducing the time lag between changes in aggregate demand and changes in prices, as well as
– temporarily reducing employment losses caused by aggregate demand reductions.
However, none of these latter effects can currently be predicted with much confidence.
Turning to some other labor market effects, the wage indexation policy should be carefully analyzed, because may lead to less real wage variability over time and thus even more employment stability.
As with the issue of inflation, none of these effects can be predicted with great confidence, especially in terms of the effect of wage indexation on the weight of labor market value.
While full wage indexation may reduce the profits of companies, especially exporters, with perhaps a negative impact on the trade balance, this moment cannot be generalized to all sectors and economic activities. A good part of the activities do not directly affect the export of goods and services, but they need to make a wage increase to increase the effect of increasing the value of the service and to increase their effect on the regional market.
The war in Ukraine is another inflationary blow to the region. Estimates by various international organizations suggest that a 10 percentage point increase in global oil prices would lead to a 0.2 percentage point increase in inflation in Europe[1], where the Balkan countries are even more affected by this increased percentage. as above.
While a 10 percentage point increase in global food prices would result in a 0.9 percentage point increase in inflation. A combined 10 percentage point blow to oil and food prices would boost inflation by 1.1 percentage points by the same logic as above.
In addition to the macroeconomic impact, higher current inflation is regressive, with low-income households suffering from a larger increase in the cost of living. For a region with historically high levels of inequality, the erosion of real incomes due to rising food and energy costs will only increase the economic strains faced by vulnerable households in the region.
Global factors, especially commodity and import prices, were the main drivers of inflation in 2021. Naturally, domestic factors also contributed to this price increase. Although they are often country-specific there are also some pandemic-related factors that are similar to all countries in the region. As in many advanced economies, fiscal stimulus and other support measures increased the demand for goods in most Balkan countries and this had a direct effect on the recovery of private consumption in 2021.
However, with the increase of fiscal stimulus measures, as well as the inflow of money in various forms (debts, informal money), the inflation of basic goods moved along with the recovery and this started to appear in the first two months of 2022. growth for services, supported by the removal of mobility restrictions began to slightly increase inflation.
Following an easing monetary policy to support the economy during the pandemic months, in the first quarter of 2022, the central banks of the countries participating in the “Open Balkans” initiative rapidly changed their position as inflation began to rise, tightening monetary policy. with interest rates, perhaps even more than expected from financial market participants.
The Bank of Albania was the first to change lek interest rates from 0.5% to 1% and other central banks of Serbia and North Macedonia followed this example, leading to an increase in local currency interest rates to 1.5%.
These actions, together with the hard-earned confidence of central banks in fighting inflation, still leave uncertainty as to whether they can keep long-term inflation expectations anchored despite rising inflation. International credit rating agencies (S&P, Fitch), in the ratings made public for Serbia, North Macedonia and Albania during February and March 2022 have affirmed stability of the financial conditions.
But, the unusual situation makes it necessary for the Central Banks to be vigilant and continue to take decisive action if necessary, due to the situation of instability of markets and economies, which has been forgotten for last decades.
[1] https://www.wionews.com/world/joe-biden-bans-us-import-of-russian-oil-global-economy-to-face-heat-460356
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