Everything is getting more expensive, Germany is groaning under high prices, real incomes are falling more than they have been in 50 years. But economists say there will be no turning back. Instead, wages will now rise – but not enough.

10.4 percent inflation – in October, prices in Germany rose even faster than ever before in a year that has so far set new negative records almost every month. For private individuals, this means that they have to spend significantly more money on all purchases, their income is worth less. The Federal Statistical Office already reported a fall in real incomes of 4.4 percent for the first half of the year. In the second half of the year, this decline will even increase due to rising inflation. “Real incomes will continue to fall next year,” says Alexander Krivoluzky. He is head of macroeconomics at the German Institute for Economic Research (DIW) in Berlin. For the past two years taken together, the loss has already averaged ten percent.

The reasons for the inflation – the Ukraine war and all its consequences – will hopefully end bit by bit from the coming year. But what happens then? How will the loss of prosperity that Germans suffer during the energy crisis be compensated for afterwards? There are basically two options for this.

a) Energy prices are falling back to pre-Ukrainian war levels, and all products whose prices were raised because of them are becoming cheaper again. This would lead to a major wave of deflation, at the end of which incomes and prices would return to the same ratio as before the crisis.

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b) Prices remain at the current high level, but incomes are catching up. Then wages and prices would be in the same ratio as before the crisis, just at a higher level.

Regardless of which of the two scenarios occurs, one thing is already clear to Kriwoluzky: “The money that households lost due to the high energy prices is gone.” There will be no overcompensation where private individuals can replace the lost assets . According to the DIW economist, things cannot go on as before. “Until now, workers have largely borne the losses alone. What that will look like in the future must now be negotiated.”

Companies such as Audi in Ingolstadt, the supplier ZF in Passau and the German subsidiary of the Danish wind turbine manufacturer Vestas in Schleswig-Holstein are currently experiencing what these negotiations look like. The IG Metall trade union called for warning strikes in hundreds of companies this week because collective bargaining with employers is faltering. The IG Metall demands 8 percent more wages, the employers only want to give the legally tax-free maximum one-time payment of 3000 euros. According to the union, 200,000 workers laid down their jobs because of this.

“Claims of this magnitude are absolutely justified,” says Kriwoluzky. But he also knows that eight to ten percent more wages can just about offset the inflation of 2022. This does not cover price increases in the coming year. For him, that’s part of sharing the cost of inflation. Companies pay for this with significantly higher wages, employees by accepting a reduction in real wage levels. Corporations will experience these costs in collapsing profits. Despite all the crises, they look great so far. The 140 largest listed companies in Germany expect an average of 15 million euros more profit this year. The car manufacturers Volkswagen, BMW and Mercedes-Benz even want to collect 12 to 17 billion euros, more than ever before. “That will change now,” says Kriwoluzky.

The Munich Ifo Institute also expects the costs to be shared. According to this, around 110 billion euros have flowed abroad from Germany since the beginning of 2021 in order to buy raw materials and intermediate products at horrendous prices. That money is gone too. “The income to be distributed between employees and entrepreneurs must therefore be corrected for this loss of real income,” says Timo Wollmershäuser, who is responsible for economic forecasts at the Ifo Institute.

Even companies that are not bound by collective agreements usually orientate themselves towards the agreements that trade unions such as IG Metall are now achieving. After all, they otherwise have difficulties in convincing applicants of a position that is better paid by a competitor who is bound by a collective bargaining agreement. In the low-wage sector, the increase in the minimum wage, which rose by 25 percent this year alone, is improving incomes. Nevertheless, Kriwoluzky says that experience has shown that this does not put any pressure on other lower wage groups.

So when inflation falls, wages will rise. On the other hand, consumers should not hope too much for falling prices. It is clear that the prices for gas, electricity and petrol will fall again when the Ukraine war ends. However, they will by no means reach the level of before the war. “We will no longer get cheap Russian gas,” says Krivoluzky. In this respect, the Ukraine war is a “structural break” in Germany. Energy can only become as cheap as it was a few years ago if we succeed in expanding renewable energies far enough.

Accordingly, all other prices will not reach the pre-war level. Food that requires mineral fertilizers made from natural gas to grow cannot fall in price, nor can long-distance travel in kerosene-powered airplanes. Nevertheless, not everything will remain as expensive as it is now. “Companies that are in strong competition in their industry will lower their prices first,” says Kriwoluzky. That would be, for example, gas and electricity providers and the manufacturers of all products where you can easily compare the prices on the Internet and then simply order from the cheapest provider. A few months longer, prices for goods where there is less competition will stay up. This could be, for example, groceries in supermarkets, the hairdresser around the corner, the kebab shop or the massage parlour.

The European Central Bank (ECB) will not allow prices to fall too much. “Deflation would be the worst thing that can happen to an economy,” says Kriwoluzky. The example of the sharp fall in oil prices from 2014 shows the measures the ECB is taking to avoid something like this. The ECB – along with other leading central banks – then cut interest rates into negative territory and bought up government and corporate bonds, only to push inflation back up.

But what makes deflation so dangerous? “Prices and wages are raised more easily than they are lowered,” says Kriwoluzky. If prices fall sharply during deflation, wages should also fall again. But this is hardly possible in society. After all, no one would voluntarily accept a pay cut. Deflations are also dangerous for debtors because they increase the value of their debt. In the euro area, this primarily affects countries that are already over-indebted, such as Germany, France, Italy and Greece.

Accordingly, economists are not anticipating deflation, but anticipating falling inflation. However, it will take time for inflation to drop to pre-war levels. Kriwoluzky does not expect to reach the ECB’s inflation target of 2.0 percent again until 2025. Kriwoluzky thinks that real incomes will probably start to rise again then at the earliest, more likely from 2026. After that, however, it could undercut for a while without central bank action. After all, the 2.0 percent should represent an average and not the minimum value. The current years of high inflation could thus be offset more easily.

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