Wages in Israel have increased since last year — and that’s bad

As of May 2023, the average nominal wage across the economy stood at approximately NIS 12,440, according to the Central Bureau of Statistics, representing a notable 6.2% increase when compared to May 2022.

The annual growth rate of the nominal wage – the actual salary paid, not adjusted for inflation – analyzed on a seasonal basis using the quarterly average change rate, has been a prominent focus in Israel’s economy and among major global economies since the beginning of 2022. This upward trajectory has outpaced the levels observed in the years preceding the COVID-19 pandemic.

Higher wages are good, right?

While on the surface, higher wages sounds like a nice thing, when observed from a macroeconomic perspective it spells trouble, as the relationship between wage increases and broader economic dynamics, particularly inflation, is a complex interplay.

“The higher the wage increases, the higher the increases in costs of production, which in turn are translated into higher price increases for consumers,” explained Prof. Dan Ben-David, head of the Shoresh Institution for Socioeconomic Research and an economist at Tel Aviv University.

This phenomenon, often referred to as the “wage-price spiral,” creates a feedback loop where wage hikes can lead to an ongoing cycle of rising prices, thereby contributing to inflationary pressures. In essence, the more wages increase, the stronger the impetus for inflation to rise.

The Bank of Israel has taken steps to combat inflation, such as raising interest rates, which has helped to slow the growth of inflation, but it has not stopped it altogether. Higher nominal wages are a sign that inflation is continuing, as they indicate that prices are rising and people are demanding higher wages to keep up. If inflation continues, the Bank of Israel may take further action to try to control it, such as raising interest rates even higher.

Ben-David noted that Israel is currently grappling with the complexities of inflation management, and the relationship between wage growth and inflation adds an additional layer of intricacy.

In addition, the current devaluation of the shekel is one of the main threats to inflation moderation. That depreciation, driven by capital outflows due to heightened uncertainty surrounding the government’s judicial reform efforts, has exacerbated the inflationary environment. A weaker shekel amplifies import prices, directly impacting the cost of imported goods and indirectly influencing domestic prices.

The interplay between wage growth, production costs, inflation, currency depreciation, and economic uncertainty creates a web of challenges and opportunities for Israel’s economy. Whether that web can be navigated successfully will depend on the government’s ability to heed the advice of experts – with that in mind, the Bank of Israel would be wise not to relax just yet.