Has Germans' Pay Gone Low Enough?

Some economists argue that widespread corporate restructuring has succeeded to the point that workers now need a wage boost

By Jack Ewing

It isn't often that a bank economist joins ranks with organized labor. Yet on Dec. 13 here was Holger Fahrinkrug, economist at UBS in Frankfurt, expressing mild sympathy for wage demands by IG Metall, the German union notorious for its militancy.

Fahrinkrug hasn't turned red. Rather, he's concerned that a slew of positive economic indicators for Germany in the last week won't translate into lasting growth -- unless consumers start spending more. And for that they need more money. "At the end of the day, consumption should be the goal of everything," Fahrinkrug says. "A little bit of wage growth would be a nice thing."


  First the good news about the German economy. On Dec. 13 the ZEW survey, an index of analyst and economist expectations compiled by the Centre for Economic Research in Mannheim, hit its highest level since February, 2004. The index rose a hefty 22.9 points, to 61.6. That's the latest sign that Europe's largest economy is benefiting from years of corporate restructuring that have restored German companies' ability to compete in international markets.

The reward has been a surge in exports. Credit-rating agency Standard & Poor's expects German exports to grow 6.5% in 2006 after 5.5% in 2005. On Dec. 12, S&P predicted that the increased demand will prompt companies to ramp up production, making Germany Europe's corporate investment champion for the next year and a half.

Germany's economic think tanks are also becoming more optimistic. On Dec. 8 the Rhine-Westfalia Institute for Economic Research in Essen (RWI) increased its forecast for 2006 gross domestic product growth by 0.2 percentage points, to 1.6%, vs. its target of 0.9% in 2005. And on Dec. 12, the German Institute for Economic Research upped its estimate for fourth-quarter 2005 GDP a tick, to 0.4% from 0.3%.


  Corporate profits are also surging, helping Germany's benchmark DAX index rise 25% since the beginning of 2005. On Dec. 1, Dusseldorf steelmaker ThyssenKrupp reported that pretax profit rose 24% from a year earlier, to $2.2 billion for the fiscal year ended Sept. 30, the best earnings in company history.

The problem is that all this good news has come at the expense of workers. Wages have been flat or declining for years. Combined with unemployment averaging 11.2% in 2005 and zero job creation, the lack of pay hikes has created chronically weak consumer spending. RWI expects private consumption to rise a modest 0.4% in 2006 after declining 0.3% in 2005.

And companies continue to cut jobs as they relocate production to Eastern Europe or Asia. The latest to suffer were 1,750 workers in Nuremberg who build washing machines, dryers, and dishwashing machines under the AEG brand. Sweden's Electrolux, which owns the factory, plans to relocate much of the production to Poland by 2007.


  Now some economists are concluding that workers have done their share. UBS's Fahrinkrug reasons that Germany is now competitive on wages with other wealthy nations. Since Germans have no hope of outbidding Poles on pay, better to share some of the wealth to boost domestic consumption.

"It's a matter of balance," he says. "We've had a couple of years where average wages are falling or moving sideways. That has done a lot to reestablish Germany's competitiveness. Would it help if we continue to cut wages? I doubt it." If consumption doesn't pick up, he and other economists say, German growth could start to fade again in mid-2006.

Of course, some economists argue that German wages are still too high. Thomas Bauer, a professor at the Ruhr University in Bochum who sits on the executive board of RWI, says Germany lacks a vibrant low-wage sector because jobless benefits remain too attractive, leaving people with few skills, who account for most unemployment, little incentive to work. Bauer advocates an earned-income credit or other form of government subsidy for low-wage jobs, as exists in the U.S. "The main problem for employment in Germany is the structure," Bauer says. "It's not a business-cycle problem."

You won't see many investment-bank economists marching outside the factory gates with members of IG Metall, which is asking for a 5% pay hike in 2006 and is likely to get about half that. But some are beginning to think a little Christmas present for labor wouldn't be a bad thing.

Ewing is BusinessWeek's Frankfurt bureau chief

Edited by Rick Schine

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