The eurozone labor market is showing signs of weakness after years of unexpected resilience. Despite the continued low unemployment rate, the European Central Bank (ECB) is now inclined to accelerate interest rate cuts due to a cooling jobs market and economic struggles.
Shift in ECB’s Monetary Policy Approach
The ECB lacks the dual mandate of the Federal Reserve, which targets both price stability and full employment. Nevertheless, a shift in Europe’s labor market could significantly impact the ECB’s inflation outlook, prompting policymakers to lower borrowing costs further. In July, ECB President Christine Lagarde cited the strong jobs market as a reason to take a cautious approach, but the situation has since changed.
Signs of a Slowing Labor Market
Although the eurozone’s labor market is not yet in free fall, there are clear indications of a slowdown. Employment growth decelerated to just 0.2% in the second quarter, while the vacancy rate dropped from a peak above 3% to 2.6%. Monthly purchasing manager surveys by S&P Global further illustrate a deteriorating labor market.
Growing Concerns Among Policymakers
Several policymakers are now concerned about a potential downturn. Economist Soeren Radde of Point72 anticipates continued rate cuts by the ECB, citing labor market trends as a critical factor. Similarly, Portuguese central bank chief Mario Centeno noted early signs of softening, while Executive Board member Isabel Schnabel recognized that lower hiring appetite could help reduce inflation to the 2% target.
Manufacturing Faces Significant Challenges
Manufacturing remains a key problem, squeezed by weak Chinese demand and competitive disadvantages at home. While firms had been retaining staff to avoid rehiring challenges, some companies, like Volkswagen AG, are now considering plant closures in Germany. Other manufacturers, such as Continental AG, have also announced job cuts, indicating waning confidence in an economic rebound.
Economic Projections Signal Rising Unemployment
Goldman Sachs economists predict that the eurozone unemployment rate will climb to 6.7% over the next few quarters, potentially worsening if the economy underperforms. This outlook supports the case for interest rate cuts at each ECB meeting until the deposit rate reaches 2%, down from the current 3.5%.
Link Between Softer Labor Market and Wage Moderation
A weakening labor market typically results in slower wage growth and lower inflation. Economists at Barclays recently suggested that cooling labor markets could lead workers to accept more modest wage increases in exchange for job security during wage negotiations. This trend could aid the ECB in achieving its 2% inflation target by the second half of 2025.
Balancing Labor Market Resilience and Inflation Control
The ECB aims to reach its inflation target without allowing the labor market to weaken excessively. Chief Economist Philip Lane recently noted that a robust jobs market increases the likelihood of meeting the inflation target, with wage increases expected to be more aligned with the target in the coming years.
Conclusion
The ECB is under pressure to adjust its monetary policy as the eurozone labor market shows signs of cooling. To prevent a significant rise in unemployment, the central bank may need to front-load interest rate cuts. As policymakers balance inflation control with labor market stability, the coming months will be crucial for shaping the economic outlook in the eurozone.
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