Wage fears keep Trichet shadow-boxing

As the ECB increased interest rates on Thursday, the answer looked less about evidence of serious wage-surge and more about proving that the ECB means business when it pledges to prevent inflation getting out of hand in the longer term.

That will not spare the central bank the difficult task in the coming weeks of explaining its decision to increase euro zone rates by a quarter-point to 4.25 percent.

Perhaps the hardest question the ECB has to answer is how a rate rise can curtail inflation caused by sky-high oil and food prices, which have more to do with Chinese demand for crude and agricultural commodities than the ECB-influenced cost of credit.

That is a question French President Nicolas Sarkozy asked in advance of Thursday's ECB decision, and by others including Bert Ruerup, one of a team of experts that advise German's government on economic policy.

Another big question is one raised by labor unions, who say wage gains have been and remain within the bounds permitted by productivity growth and that the central bank is unjustifiably scaremongering.

That point of view got some independent support this week in an OECD report which forecast slower wage gains this year across the industrialized world and nothing excessive in 2009.

"Mr. Trichet should look at the facts," says Ronald Janssen, a policy adviser at the European Trade Union Confederation.

Collective bargaining agreements in the public services and chemicals sectors of Germany and in the Italian metal sector had fixed a reasonable three percent increase for 2009, he said.

"Given the fact that wage bargainers in Europe informally coordinate...the three percent figure will certainly serve as benchmark for upcoming new agreements. It is hard to see how the percent wage growth would trigger a wage price spiral.

NOT QUITE THE '70S?

In a statement issued in response to the ECB decision, ETUC deputy secretary general Reiner Hoffmann said: "The ECB should realize that we are no longer living in the seventies."

Trichet made no attempt at a post-meeting news conference to demonstrate or quantify the danger of what he calls second-round inflation pressures from wages.

He insisted that the ECB's job was to fight inflation and to convince the euro zone's 320 million people that it could be sure the job would be done.

Big wage rises to compensate for the cost of fuel and food prices would merely plunge Europe back into the misery that such tit-for-tat rises in pay and prices inflicted on Europe after the oil-supply crisis of 1973, he said.

With oil prices at all-time highs again, the ECB chief said there were some "some similarities" between now and more than 30 years ago, notably the temptation for pay negotiators to resist a transfer of wealth from oil-buying to oil-supplying nations.

"Those who deny that are paving the way for a long period of a high level of inflation, slow growth, stagnation and unemployment at a higher and higher level," he said.

Annual inflation is running at a record 4 percent rate now, twice the ECB target level, and few question the need to ensure that the situation does not spin further out of control, just as some question if a rate rise does much to help.

The economy is slowing, perhaps hard, and unemployment is on the rise again this year for the first time in years, according to the OECD, which makes the decision to raise borrowing costs controversial by definition because it can dampen growth.

In an employment report published this week, the OECD noted that wage gains were relatively limited in recent years even as the unemployment rate declined to the lowest level since 1980, a trend that should have strengthened labor's hand in pay talks.

Globalization -- essentially the ability of companies to tap into cheaper labor in China and India -- was part of the reason, the OECD report's author Stefano Scarpetta said.

He also highlighted that inflation, while serious, was not on the scale that marred the 1970s.

Growth in unit labor costs, Trichet's favorite measure of wage inflation, doubled in many countries in the immediate wake of the 1973 oil price spike, and even tripled in his native France, OECD figures show.

The story was similar but on a somewhat smaller scale after the second oil crisis at the end of the '70s.

In the last five years, however, unit labor costs grew less than two percent a year on average in the euro zone, and those were five years when the price of oil was on the rise.

By comparison, the growth rate un labor costs closer to 10 percent a year in the 1973-77 period, OECD figures show.