These new elements in the functioning of the labour market may help the Riksbank to combat inflation and will probably be good for growth and thus employment in the long term. However, they must be weighed against a possible deterioration in security of employment for the individual. How high can the rate of wage increase go without causing inflation to accelerate? In the long term the development of real wages must reflect the labour force's ability to produce goods and services. Thus, real wages can only rise as long as productivity is increasing. If real wages rise faster than productivity, companies are forced to either raise their prices if they can, which means that inflation rises, or to reduce their labour force or curtail their operations. Nominal wages can thus increase by the total of the inflation target of 2 per cent and the growth in productivity. If we assume that the Swedish productivity rate trend is approximately 1 to 2 per cent, a reasonable assessment is that an average increase in payroll expense of around 3.5 per cent should be sustainable in the long term. However, it is important to point out that the arguments regarding wage scope are based on several assumptions. The first concerns an increase in total payroll expense, i.e. both wage increases through collective or local bargaining and other types of increase in payroll expense, such as payroll tax and collective charges.
Inflation was assumed in the main scenario to be in line with the inflation target one and two years ahead, albeit at the lower edge of the interval. The risks we foresaw for Swedish inflation were mainly related to developments in the financial markets and to wage formation. In that situation, we chose to leave the repo rate unchanged and decided to hold an extra monetary policy meeting, which will take place tomorrow. The Municipal Workers' Union's termination in advance of the third year of its collective agreement need not in itself constitute a threat to the inflation target, as long as other groups in the labour market are prepared to stand back in favour ot this union's members. However, if other groups were also to demand higher wages, the inflation target might be threatened. The Riksbank would then be forced to tighten monetary policy by raising the repo rate, which would lead to lower growth and employment. During the past two wage bargaining rounds in 1998 and 2001, the social partners indicated that wage formation had improved. It remains to be seen whether wage formation is now sufficiently flexible to manage the necessary changes in relative wages. Thank you. BIS Review 63/2002  7