Central Bank publishes Economic Letters analysing inflation developments and expectations

• The vast majority of households expect the inflation rate to increase over the next 12 months. Households expect average inflation of 10% over the next year.
• Around half of working Irish residents expect their earnings to stay the same and just over a third expect them to increase slightly over the next year. The majority of those who expect earnings to increase believe that earnings will grow by less than consumer prices over the next year.
• Increases in business input costs are likely to be reflected in consumer prices now and in the coming quarters, with limited scope for many businesses to adjust labour costs or profits to respond to these increases.

The Central Bank of Ireland has today (1 June 2022) published two Economic Letters. The Letters focus, respectively, on consumer expectations of inflation and wages, and the impact of rising business costs on consumer price inflation.

The first Letter, “A snapshot into inflation and earnings expectations by Irish residents”, is authored by Kevin Cunningham, Garo Garabedian, and Zivile Zekaite. It outlines the findings of a research collaboration between the Central Bank and the Ireland Thinks monthly survey, which sought to gain insight into household views on future inflation and earnings expectations. The Letter outlines the findings of this research, which can be summarised as follows:

Household inflation expectations:

• In February, 83% of respondents expected prices to increase either more rapidly or at the same rate in the coming year.
• The share of those who expected prices to increase more rapidly in the next 12 months increased from 53% in February to 73% in April.
• The average expected rate of inflation over the next year was 9% in March and 10% in April. The median response increased from 7% to 8% in this same period. Responses also indicate increasing concern about the cost of living among Irish residents.

Earnings expectations:

• Around half of working respondents expect their earnings to stay the same in the next 12 months. Around one-third expect their earnings to increase slightly.
• Overall, earnings expectations declined over the three-month period informing this analysis. The decline in earnings expectations between February and May appears to be driven by the construction, manufacturing, and low-customer-facing services sectors.
• Of those respondents who expect their earnings to increase in the coming year, the vast majority expect this increase to be less than the increase in consumer prices.
• On balance therefore, working Irish residents expect their real earnings to fall in the next 12 months.
• In April, workers who believed their earnings would increase in the coming year expected an average increase of 5.8%. At the same time, they expect real earnings (i.e. adjusted for inflation) to decline by 3.5%.

Action on higher wages:

• In February and March, around one-quarter of respondents indicated they had taken some action to seek higher wages over the previous three months, in order to offset changes in living costs.
• The share of those saying they had not taken action to seek higher wages increased from 47.1% in February to 55.5% in March. Therefore, a majority had not actively demanded higher wages to compensate for the increased cost of living.
• Stronger wage demands may surface in time, especially if labour market conditions remain strong and/or inflation expectations increase over the medium term.

The second Letter, “Business Costs and Consumer Price Inflation”, is authored by Stephen Byrne, Darragh McLaughlin and Martin O’Brien. The Letter examines the costs of domestically-oriented businesses in Ireland. It uses a novel measure to study how increases in input costs filter through to consumer prices. The main findings are as follows:

• The recent rise in input costs, as a result of supply chain bottlenecks and the war in Ukraine, is being reflected in consumer prices now and this is likely to continue over the next year.
• How prices respond depends upon a number of factors, including whether or not businesses can offset cost increases through adjustments in wage costs, productivity or profits. However, with a tightening labour market expected, there is less scope for adjustment through wages.
• Accordingly, profits may fall and are estimated to have already done so in 2021. However, businesses in sectors that already experience low margins, and that may have been further constrained during the pandemic, may have less scope to respond to cost increases through reduced profits.

The Letter concludes that the most sustainable way of addressing rising input costs and minimising the scope for persistently high consumer price inflation is through productivity growth across the different sectors of the domestic economy.

Notes to Editors

“A snapshot into inflation and earnings expectations by Irish residents” is jointly authored by Kevin Cunningham of Ireland Thinks and Central Bank economists Garo Garabedian and Zivile Zekaite.

Ireland Thinks conducts monthly public opinion polls on a nationally representative sample of respondents. A panel of around 25,000 people is continually updated through advertisements targeting specific demographics when they are needed. During monthly polls, which are typically conducted during the first weekend of a month, the algorithm chooses 5,000 individuals to take part on the basis of demographics and characteristics. This selection process ensures that the sample closely resembles the census and the most recent general election exit poll.

In order to inform the analysis outlined in the Letter, the authors added a set of further questions, relating to the labour market, to the Ireland Thinks survey for February, March, and April 2022. In total, 1,593 responses were received in February, 1,293 in March, and 1,418 in April.

“Business Costs and Consumer Price Inflation” uses a macroeconomic measure from the National Accounts termed the Gross Value Added Deflator of domestically-oriented economic sectors (GVAD*) to measure business output prices. GVAD* reflects changes in business output prices that correspond to the cost of labour and capital, after input costs such as raw materials and professional services are accounted for.

Economic Letters – full series