Drivers of employment growth in the euro area after the pandemic – a model-based perspective

Since the end of the pandemic, employment dynamics in the euro area have been significantly stronger than economic activity. The fall in real wages has been key in supporting employment growth following the energy crisis in Europe: real wage growth has been lower than productivity growth, bolstering job creation and leading to labour hoarding. Looking through the lens of an empirical model that explains deviations from historical regularities, we find that a key factor which has helped employment growth decouple from output dynamics is a substitution effect across production inputs in favour of labour. Employment dynamics have also been sustained by demand-side factors, including fiscal policy, as well as by labour market-specific effects related to fewer hours worked per worker. Given the temporary nature of these factors, much of the recent fall in productivity – measured as output per worker – is likely to be reversed in the coming years. JEL Classification: E24, J21