Bailout

Can German wage hikes save Greece?

By Felix Salmon

Marco Annunziata has a diagnosis of what ails the PIGS:

Germany has been relying on an export-led growth strategy: With virtually no wage growth over several years, it has rapidly gained competitiveness against most of its European partners, running a substantial current account surplus, which stood at 6.5% of GDP in 2008. As two-thirds of German exports go to other EU countries, it is not surprising that some of them ended up with huge external deficits. With a sharp rebound in international trade now leading the global recovery, Germany sees no reason to change strategy. But Europe, like the U.S., is a relatively closed economy?the bulk of growth for the area as a whole has to be generated by domestic investment and consumption. If Germany continues to compress wages and hence consumption, there are only two possibilities: Either other euro zone members follow suit, in which case the continent will stagnate, or they lose competitiveness, in which case imbalances will be exacerbated. It may seem absurd to suggest that Germany should somehow favor more generous wage dynamics, thereby losing competitiveness, but the alternative at this stage is an unpalatable choice between sustainable stagnation and destabilizing imbalances.

I think that Annunziata has the effects right here, but I do take some issue with his identification of the causes. Yes, Germany is growing through exports, and yes, those exports are mainly to the rest of the EU, and yes, that strategy is succeeding for Germany, if not for the rest of Europe. But no, I don’t think that the key variable here is wages.

It’s true that German wages have not risen over the past few years, but I don’t think that lower wage inflation is the reason for Germany’s export-led success. Germany’s wages are not low, by European standards, and its exports are not cheap. Similarly, “more generous wage dynamics” in Germany would hardly be enough to rescue the PIGS from their plight . Yes, they would mean that German exports get a bit more expensive, but the fact is that German manufacturers aren’t competing with Greek manufacturers in the global market.

As Martin Wolf says, Germany is “the world?s foremost exporter of very high-quality manufactures”, which means that the demand for its goods is highly inelastic. If you want a high-precision medical-equipment component, or high-end music-production software, you want what the Germans are selling, and, within reason, you’ll pay whatever they’re charging — especially when the euro is weak. State-of-the-art optical components aren’t olives, and more expensive machine tools don’t make Mediterranean beach holidays any more or less attractive than they were before.

All of which is not to say that a bit of wage inflation in Germany wouldn’t be a good thing. It’s just that the chief beneficiaries would be the Germans seeing their wages increased, rather than anybody on Europe’s southern fringe. Germany may or may not end up bailing out the PIGS in one way or another. But it can’t do so just by paying its own workers more money.

Full post as published by Macroprudential on February 08, 2010 (boomark / email).