Economist: “Middle income bracket” will be worst affected by real wage decline

This year will see real wage decline in Czechia reach 8.3 percent, the largest such drop within the Visegrad Group (Czechia, Hungary, Poland, Slovakia), according to an analysis conducted by investment firm Cyrrus. Meanwhile, for next year the firm expects real wages to fall by 0.1 percent. I asked Cyrrus’ chief economist Vít Hradil why this is the case.

Vít Hradil | Photo: archive of Vít Hradil

“Well, there are really two factors at play here. One of them is obviously inflation which, at least in terms of the outlook for the year 2022, is higher than in those other countries. Prices are rising faster. The other thing is obviously the nominal wages, meaning how much more employees in Czechia will be making, and that growth is lower.

“There are two explanations I can think of when it comes to why our nominal wage growth is lower than in other countries around us. One of them is that the economic output, or the growth of the Czech economy, is expected to be significantly lower than in Poland or Hungary. Furthermore, Czech employees are notoriously bad at negotiating higher wages. I would be guessing whether the reasons for that are cultural or psychological, but it just happens to be the case that Czechs tend to settle more easily for lower wages than in other countries.

“When you combine all of these things together you get a higher real wage drop. I would also add one more thing – Czechs employees are the richest out of all of these countries at this point. It is therefore of course much easier to fall from a higher starting point than from a lower one.”

Your colleague, Cyrrus analyst Anna Píchová, also pointed out that wages have been growing much faster than the average in the Eurozone. Is this decrease in income much sharper among low-demand professions? And could you perhaps tell us what these are?

“I think that the drop is going to affect just about anyone at this point. It is very seldom that you can find a specific profession whose wage increase is expected to cover the inflation rise, or even get close to it.

Photo: mohamed_hassan,  Pixabay,  Pixabay License

“As far as the question of what professions will be affected the most is concerned, typically in a downturn such as this it is the lower wage earners that are affected the most. That happens just about anywhere.

“In our case we can still kind of rely on our low unemployment rate, so firms will be somewhat hesitant to treat their employees badly because they are running the risk of not being able to find a replacement for them. But for the most part, you can expect middle and lower income people to be affected the worst.

“It’s actually going to be the middle income bracket that will be driving the wage decrease for the most part. This is because lower income earners obviously can’t drive the average much lower as they aren’t making much in the first place.”

The former governor of the Czech National Bank, Jiří Rusnok recently told the daily Právo that he expects the relatively low inflation rates we have been used to in the past will not return for the foreseeable future. What would you say will be the new normal and what will it mean in practical terms for the majority of Czech society?

“I obviously noticed the interview of the former governor that you are referring to. I would agree only partially.

“In the near future, meaning the upcoming year or two, we are definitely not going to see inflation reach anywhere near the 2 percent target. That’s not going to happen as quickly as we would like.

“However, as far as the more long-term outlook is concerned, I wouldn’t be that much afraid that inflation will remain elevated. I do believe that the Czech National Bank will be able to bring it down to the 2 percent mark, but it is going to be more costly than it used to be.

Photo: Pixabay/Radio Prague International

“We had a period of around a decade where we had both low interest rates and low inflation, which is quite a strange phenomenon as far as economic theory is concerned. The reason behind this, as the former governor Rusnok correctly pointed out, was that there was an influx into the global economy of low-wage, low-cost economies that all of a sudden started taking part in the exchange of global goods and services, countries such as China or those from the former Soviet Bloc. These countries’ purchasing power is now on the rise, meaning that they are demanding higher wages. It will therefore no longer be the case that they will serve as a source of cheap labour and production, so that period is certainly not coming back.

“However, I do believe that central banks will be able to tame inflation back to the two percent target. It’s just that it’s going to be more costly in terms of interest rates. We are not going to see a situation any more where inflation is low, interest rates are near zero and we just can’t seem to push inflation upwards. That’s not going to be the case anymore.

“We are going to see inflation hovering around the 2 or 3 percent mark, but it’s going to cost us higher interest rates, something around 4 or 5 percent, to keep inflation at bay. I think that’s going to be the new normal.”

What do you make of Japanese financial company Nomura’s warning, as reported by Bloomberg, that Czechia is among three Central and Southern European countries facing the risk of exchange rate crises over the next year as fiscal and external challenges mount? The report said, for example that Czechia’s currency declined by more than 8% against the dollar.

“I did notice the warning, but I think that it’s a little exaggerated. To be honest, I didn’t read the full analysis. I just read the press release by the Japanese company, so I don’t know all of the details. All I know is basically what the journalists know. What was published in the news articles.

“I don’t think it is as threatening as it may seem. They are correct in pointing out that there are imbalances in the Czech economy as far as the current account, fiscal balance, or even the short-term interest rates which are deeply negative at this point because they are much lower than inflation. I do think that all of these things combined are correct. There is nothing wrong with what they are saying. However, I don’t believe that there is an imminent risk of a currency crisis in the Czech Republic.

Czech National Bank | Photo: Michaela Danelová,  Czech Radio

“First of all, the Czech National Bank has got a lot of tools at its disposal to remedy the situation if it does escalate. Also, we would be seeing very clear signs of the escalation in advance, so there will be a lot of time to react. The central bank is therefore able, and presumably willing, to act if such a situation were to arise.

“I think it is also worth stressing that the Czech National Bank has got one of the highest amounts of foreign currency reserves at its disposal. It is therefore very capable of acting in case of such a crisis.

“If I am not mistaken, I also think that the analysis kind of omits that a lot of the recent depreciation of the Czech crown towards, for instance, the US dollar was driven by a swing in global sentiment. It is therefore not something that is inherently wrong with the Czech economy. A lot of it was simply due to the movement of capital across continents that was driven by global sentiments, which, incidentally, I think will take a turn sometime soon. But even if it doesn’t, like I said, if there are signs of a currency crisis erupting we will be able to identify in advance and our central bank will be able to act accordingly.

“Therefore, with all due respect, I think that the claim that we are threatened by a currency crisis in 2023 is a little exaggerated and I wouldn’t be worried about it at all.”