ECB’s structural problem: Inflation and growth are now negatively correlated - Natixis

Patrick Artus, Research Analyst at Natixis, suggests that the inflation and growth are usually expected to be positively correlated: higher growth drives up companies’ profit margins, reduces unemployment and therefore leads to an acceleration in wages.

Key Quotes

“This simplifies the conduct of monetary policy for the ECB: unemployment falls and there is growth and inflation. But this has no longer been the case since 2010 in the euro zone. We can think of two mechanisms that could lead inflation and growth to now be negatively correlated:

• The weakening of Phillips curve effects (the effect of unemployment on nominal wage growth), which may mean that when growth slows (for example), the predominant effect is the slowdown in productivity gains, such that unit labour costs accelerate and core inflation rises;
• The role of the oil price: when the oil price increases (for example), inflation also increases and growth is slowed by the loss of real income. 

If these two mechanisms lead inflation and growth in the euro zone to move in opposite directions – the case since 2010 – then the conduct of monetary policy becomes difficult for the ECB.”