Reflections on the German economy. A macroeconomic approach. Part 2: Wages and prices
By Egon Neuthinger
(The next sections rely heavily on several contributions regarding the connections between wages and the current account balance that Heiner Flassbeck and Friederike Spiecker have published on Flassbeck-economices and in other venues over the years).
The core of the objection against the mainstream economists who argue that the Germany agenda has been a success is that these authors simply omit essential interdependent contributing factors from their evaluations of the economic development in Germany. These factors are, firstly, low nominal wage rises that remain far below productivity plus the ECB target inflation rate, and, secondly, the tremendous upsurge of the German current account surplus to now more than 8.5 % of GDP.
This surplus is a unique feat for all larger developed countries, which cannot be explained without wage developments and the European Monetary Union. German wage costs have internationally and in the longer run always been in the lower range. Therefore, price developments were also in this lower range. After an upsurge in 1991/92 in connection with the German unification, unit labour costs increasingly tended to flatten out. The wage moderation was also supported by the so-called “Standort” (location) debate, a debate that was triggered by the fear that Germany had lost out in the process of globalization.
The main argument in favour of wage moderation was that real wages rising less than productivity over the longer term was necessary to boost internal demand and (especially) stimulate private investment and employment on account of higher profit margins and a higher marginal efficiency of investment. This expectation was only very partly realized. Internal demand and especially private consumption remained on average rather flat; private investment showed some infrequent and insufficient increases. The dominant feature and the cause of the German “success” – if one can use this term – was the rising and enduring current account surplus, a large and permanent source of demand for German production.
Once again, German economic history repeated itself: the outcomes of long-term “consolidation policies” were, as a rule, not the increase of internal private demand, but the decline of imports and the upsurge of exports and foreign demand. A conspicuous example is the period 1982 to 1989, when the current account balance turned from a deficit of 2% in 1982 into a surplus of over 5% in 1989. Germany experienced similar results in earlier periods, when the main causes to get the economy out of recessions or down swings were export growth and current account surpluses. It is not without reason that the OECD spoke of German export –led growth. Analyses of economic developments in Germany which ignore these fundamental peculiarities are simply one-sided and fundamentally incorrect.
The relationships between wage developments, net external demand and current account balances are empirically well founded. Undoubtedly, the German economy is traditionally characterized by a high grade of international product and supply competitiveness, but it is conspicuous that since the start of the EMU and its fixed exchange rates, German nominal unit labour costs consistently fell below the price stability target of the ECB. As a result, the German current account surplus surged upwards. The mainstream view denies the existence of this relationship and explains the surplus on the basis of a superior German economic performance, with Germany doing better in technological innovation for example. In no way, the mainstream considers it a macroeconomic imbalance.
It is rather strange that in German economic debates about the EMU great emphasis is put on the rise of nominal unit labour costs in countries in which these costs grew stronger than was allowed by the Golden Wage Rule, for example in Italy, Greece and Spain, but that, as a rule, almost nothing or nothing at all is being said about the fact that German nominal unit labour costs remained considerably below the Golden Wage rule. Increases above the limit set by this rule (productivity growth plus 1.9% inflation rate) are seen as inimical to competitiveness, while increases below the rule are not considered as anything unhealthy or as an unearned gain of international competitiveness against the original European agreement.
Contrary to Germany, nominal labour costs in France were in the past roughly in conformity with the Golden Wage Rule; in France nominal wages rose in the average in accordance with the price target of the ECB plus the evolution of productivity of the economy. As Heiner Flassbeck said before, France never did anything wrong, it did not go under or above the Golden Rule (see, for example, here). It should be analysed whether the evolution in France was the result of a conscious action of the social partners and the government. In any case, if it was possible for France to adhere to the Golden Wage rule, then it should have been possible for others to also adhere to this rule also. As said, the Golden Wage Rule is vital for the sustainability of EMU. The formula is probable more relevant than the deficit rules or balanced budgets and the debt brake because it makes it impossible for major imbalances in current accounts to originate between countries.
Last but not least, the interdependence between the current account and public balances should be taken into account. Positive current account balances reduce public sector deficits and, vice versa, large current account deficits make countries susceptible to higher public deficits and debts. The German public sector account can therefore not be judged without considering the very big German current account surplus. This is to be emphasized, especially with regard to the so-called “black zero” policies – the need for balanced budgets- which are presently praised in Germany as a great national success. It might be added that this ‘balanced budget’ is, in fact, partly financed by the rest of the world and by EMU countries in particular. For Germany the tremendous sustained current account surplus of 8 % of GDP is definitely the Fritz Machlup’s true “life saver” (see part 1 here). Without the permanent outside injection of demand in an overall environment of undercutting wages and a neutral fiscal stance, Germany would not have been able to keep up its policy stance. Therefore, by all traditional theoretical economic standards, one must say that the German economy is characterized by a substantial disequilibrium.