Labor market slack beyond unemployment moderates wage growth

Euro area unemployment is near record lows, yet wage growth is projected to decelerate, challenging the classic Phillips curve.

The blog argues that the unemployment rate alone is misleading, as labor supply and demand adjust along several additional margins.

In the last three years, 6 million new jobs were created.

Only about 500,000 of these came from the unemployed pool.

Instead, over 3 million jobs were filled by immigrants, and approximately 2.5 million by previously inactive nationals, 60 percent of whom were women.

The participation rate of 55-74-year-olds has also increased by nearly 1.7 percentage points since late 2022, adding over 1.5 million older workers.

This significant elasticity of labor supply, particularly from foreign workers and activated nationals, has helped ease labor market tightness and wage pressures.

Beyond the unemployed, nearly 7 million people are "marginally attached" to the labor force, willing to work, and another 5 million are underemployed, desiring more hours.

These groups represent further untapped labor supply.

Job-to-job transitions have also lost momentum, indicating firms are less willing to offer better conditions and workers prefer to stay put, signaling a less tight labor market.

Firms' labor demand can cool without triggering layoffs; since mid-2022, companies have posted fewer job openings or not replaced retiring staff.

This lower demand reduces competition for workers, translating into lower wage pressures than the low unemployment rate suggests.

Firms also adjust hours worked to accommodate demand fluctuations.