Wages are on the rise, but the economy still retains macroeconomic balance

The average wage still continues on its trend of annual rise, yet data indicate that the Latvian economy retains its macroeconomic balance.  In the second quarter of 2015, the average wage for full time work was 6.9% higher than a year ago. As usual, the increase rate was faster in the private instead of public sector (respectively 7.8% and 5.3%).

Wage growth outpaces productivity, yet economic indicators do not point to accumulation of macroeconomic imbalances. Thus it most likely reflects a rise of labour income share equilibrium level,  possibly partly mirroring the legalization of unofficial wages.  

First of all, the percentage of businesses who consider shortages of workforce an important factor impeding entrepreneurship is moderate (under 10%) and stable (European Commission (EC) survey data). To compare – before the 2006-2008 wage-inflation rally, the assessment of workforce shortage among entrepreneurs increased substantially. In the foreseeable future, a general shortage of workforce is not expected, for the employment plans of entrepreneurs are cautious for the coming months (EC survey data), and the negative impact of migration on population changes is diminishing. Flash  data point to a further improvement as far as migration is concerned: the number of passengers arriving in the "Riga" airport in the last four quarters has exceeded the number of passengers departing.

Second, unemployment is not lower than its natural level (unlike in 2005-2007 when wages were removed from productivity). Within the last few years, unemployment dropped along with its natural level (both indicators in mid-2015, were around 10% of the economically active population). Thus the possibilities for an unsubstantiated rise in wages are limited.

Third, Latvian market shares in world imports are stable. Thus the increase in wages in the exporting branches has been compensated either by reducing other costs or by an improved quality of goods and has not led to deteriorating competitiveness in the external market.  

Fourth, the profitability indicators of enterprises are stable. In the second quarter of 2015, both the amount of profits of the non-financial commercial companies and their ratio to net turnover were similar to the indicator a year ago.

Whether economy can afford such a robust wage rise should be monitored carefully also in the future. In the medium term, the rise in wages that outpaces productivity may reflect the structural changes in the economy or the legalization of "envelope" salaries, but in the longer term, this situation would be unsustainable.