Conditions on the labor market are a key element in assessing the condition of the economy, and thus a key factor influencing currency valuation. High employment or low unemployment has a positive impact on consumer spending and therefore economic growth, increasing the value of the local currency. Moreover, a very tight labor market – a situation in which there is a shortage of workers to fill vacant positions – may also have an impact on inflation levels and therefore monetary policy, as low labor supply and high demand lead to higher wages.

The pace of wage growth in the economy is of key importance to decision-makers. High wage growth means households have more money to spend, which usually leads to higher prices for consumer goods. Unlike more volatile sources of inflation such as energy prices, wage increases are seen as a key element of underlying and sustained inflation because increases are unlikely to be reversed. When deciding on monetary policy, central banks around the world pay particular attention to wage growth data.

The weight that each central bank assigns to labor market conditions depends on its objectives. Some central banks have explicit labor market powers beyond controlling inflation. For example, the United States Federal Reserve (Fed) has a dual mission: promoting maximum employment and stable prices. Meanwhile, the sole task of the European Central Bank (ECB) is to keep inflation under control. Still, despite all the mandates it has, labor market conditions are an critical factor for policymakers, given their importance as an indicator of the health of the economy and their direct link to inflation.