Posted on March 20, 2023
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Bruno Le Maire is quite right to refuse the indexation of wages to inflation. The problem is whether he will be heard by the government.
A bit of recent history
In order to demonstrate the harmfulness of indexing wages to inflation, it suffices to go back to the 1960s and 1980s. Here are the consequences.
In 1967, inflation in France was under control at 2.7% but began to slip the following year to reach 13.7% in 1974.
So what happened?
First of all, the strikes of May 1968 resulted in a significant increase in wages, which led to a first increase in inflation to 6.5% in 1966, leading to a blockage of credits and the bankruptcy of many SMEs. My father fell victim to this in 1969 despite a sharply rising order book.
Then came the first oil shock of 1973. The increase in the price of oil resulted in a significant increase in wages, around 20%, followed by a rise in inflation which will reach 13.7% in 1973.
Finally came the second oil shock of 1979. After a lull until 1978, from 9.1% the increase rose again to 13.6% in 1980 with there also a new rise in wages of about 20%.
I knew this period well since it was in 1980 that I bought my first house with a loan at the highest borrowing rate ever reached since, namely 18%!
What conclusion to draw ?
So far, no oil shock, only fluctuations. From 1986 to 1996 inflation fluctuated from 1.7% to 3.6%; it has gone from 0% in 2015 to 2.1% to date with an exceptional 2.8% in 2008. But we can say that it has been contained.
The average salary over the last twenty years has increased on average by 2.6% per year. It more or less followed the increase in productivity, which averaged 2%.
What about today ?
Productivity is no longer progressing, or even regressing, and inflation is soaring, especially since the energy supply problems.
The price of oil is soaring, but also that of gas and, to a lesser extent, raw materials. Never has this new shock been so rapid and so violent. Inflation is between 10 and 20% in a majority of countries and reaches more than 70% in Turkeyand up to 210% in Venezuela.
If we index wages to inflation, we enter what economists call the “wage inflation loop” or “inflationary spiral” which is self-sustaining and has no limits.
The salary increase is considered an acquired right except to accept a reduction of this salary in the event of a reversal of the situation: no government will rub shoulders with it.
Consequences of such a scenario
They would be considerable.
Rise in unemployment
With unemployment 4 points above the European average, France is already the worst student in the class. Automatic indexation would aggravate this situation and the country would return to rates well above 10% with disastrous consequences for its economy.
Increase in interest rates
Admittedly, interest rates follow inflation with a time lag. We already have proof of this this year, since the 10-year rate has gone from 1% at the start of the year to 2.8% currently. We would therefore see a significant drop in investment for both individuals and companies which, unlike the Germans, have little self-financing capacity.
Currency depreciation
With a current loss of 20% in the value of the euro against the dollar, the country is paying 20% more for the price of oil and a majority of imported raw materials, which corresponds to the 30 cents of the subsidy for the State on fuel with a limited application at the end of the year.
Amputation of the value of the heritage of the French
Inflation destroys the value of a good by as much. The first victims would be the owners of assets, and therefore retirees in the first place.
Debt unsustainability
For each additional rate point, there is an additional 30 billion euros over 10 years in the cost of interest on the debt, which will soon exceed 60 billion euros annually. They will explode very quickly and the trusteeship of the IMF and the ECB will become inevitable with a ten-power Greek situation.
Which solution ?
The increase in prices in general, and energy in particular, cannot be assumed by a majority of low- and middle-income French people.
First of all a regret and it is not for lack of having demanded it for two decades: successive governments have not undertaken the drastic reduction of State expenditure which exceeds 57% of GDP (in sharp increase ) while the eurozone average is below 52% (down). It is therefore 5 points of GDP, or more than 110 billion euros, which would have been added to the purchasing power of the French and therefore would have made it possible to better cope with the current situation.
Unfortunately, this is not the case and we only have two solutions:
- Targeted State aid for the poorest with the corollary of an increase in indebtedness.
- An increase in the working time of the French who work 30% less than the Germans, which would more than cover the cost of current inflation and would be a significant increase in purchasing power when the country returns to normal.
We must therefore absolutely ban any indexation of wage increases on inflation, including the minimum wage.
Article originally published on November 8, 2022