Wages unlikely to turbocharge euro area inflation

After reaching a record h igh 5% in December , we expect euro area inflation to gradually decline during the course of th is year, falling again below 2% by the final quarter of 2022. Underlying this forecast is the assumption that the factors pushing inflation up , such as the spike in gas prices and supply bottlenecks , will slowly but steadily fade out . It will crucially depend on wage developments whether the current high inflation rates will translate into a lasting overshooting of inflation . Put differently, whether the current initial inflation shocks will kickstart a more lasting higher price dynamic will also be determined by how wages will respond. At least for now, there is no sign of an acceleration of wage growth. We employ a standard wage model to simulate the future path for wage growth. We find that even under rather aggressive assumptions wages will not accelerate much outside t heir historical range. It is also true, however, that wage s may respond more sensitive to inflation at high levels of inflation than past correlations would suggest. While this is speculation for now , this also shows that the risks to labour costs are to the upside as labour market tightness gets more pronounced.