Wage inflation

Outside of the UK we are no longer fearful of Euroland imploding. The European Bank Guarantee Scheme has European banks guaranteeing each other which eventually leads back to Berlin. If a Spanish bank has to get bailed by a German bank then Berlin will always support the German bank.

I think the new rule book governing bank regulation in Euroland has given the Germans the confidence to underwrite the banking system. The effective German guarantee is also an effective wealth transfer from North to South and the long awaited haircut that German creditors needed to take on their loans to Southern Euroland. This has all helped our confidence.

The UK economy has been recovering as well. In June 2012 the economy was contracting. By June 2013 we were growing at 1.3%. This June we look as if we going to be marching ahead at 3.3%.

We hope that the next stage of the cycle is that the expanding economy drives a shortage of labour which then encourages real wage inflation. Events, mentioned above, which help employees gain greater confidence to negotiate wage increases help. We hope that wage inflation stimulates a buoyant consumer buying more goods and services in addition to stimulating co rporate investment in capex to drive productivity higher. Real wage inflation driven by productivity gains is all part of the virtuous circle that we aspire to.

Interest rate rises need to be timed so as to avoid crushing the recovery but at the same time keeping inflation under control. We need a little above average inflation to monetise our national debt.

The big question is how many 55 to 65 year olds have been financially prejudiced by either not saving enough or having had rubbish pension fund performance to the extent that they are keen to work and work for longer, when in other cycles they have been busying themselves with P&O Cruise brochures. If the cohort is large then it will dampen the prospects of wage inflation and leave the fruits of economic growth accumulating in the lowly taxed corporate sector.

My estimate is that wage inflation and general CPI inflation will remain weaker for longer and that a wealth effect will continue to be achieved through asset price inflation, which will slowly feed through into the “get out of debt jail” card of higher CPI inflation that governments quietly seek.