Blog Post

German wages, the Phillips curve and migration in the euro area

This post studies why wages in Germany have not borne strong increases despite a relatively strong labour market. I list four reasons why announcing the death of the Phillips curve – the negative relationship between unemployment and wage growth – is premature in Germany. One of the reasons I report is substantial immigration from the rest of the EU.

By: Date: November 29, 2017 Topic: European Macroeconomics & Governance

An important debate in the blogosphere concerns the possible death of the Philipps curve i.e. the empirical relationship between inflation or wage growth on the one hand and the amount of slack in the labour market on the other hand. European Central Bank president Mario Draghi has recently confirmed his conviction that euro-area inflation rates will pick up as the slack in the labour markets closes. He expressed confidence that with sufficient patience, we will see an increase in inflation.

In this blog post, I analyse one important aspect of the debate for the euro area: wage developments in Germany. If Germany’s Phillips curve was dead and wages remained low, it would have far-reaching implications for inflation in the euro area as a whole. I find that the Phillips curve correlation is weaker after the crisis but is still present.  Recent wage demands in collective bargaining and wage settlements have increased, while the substantial increase in immigration from the EU towards Germany could have contributed to the more muted recent wage rise. Germany already has a higher participation rate than the euro-area average, suggesting that labour force increases may be more muted. As the slack falls, wages should increase.

Germany’s wage developments have continuously outperformed those of the rest of the euro area since 2010               

Germany’s wage developments have continuously outperformed those of the euro area since 2010, while the opposite was true before 2010. The same is also roughly true for real wages. Yet, wage developments have still been low and disappointing in Germany since 2010, hardly surpassing the 2% inflation goal of the ECB. Since there is productivity growth, German inflation rates have been mostly below 2% since the beginning of the 2009 crisis. And of course, arithmetic rules require German inflation to be well above 2% if the euro area is to achieve a 2% inflation average, as several countries will still need to run lower inflation rates to regain relative price competitiveness.

Reasons why declaring the Phillips curve in Germany dead may be premature

If the Phillips curve was strong and alive, shouldn’t we see much higher inflation rates in Germany, given that Germany’s unemployment rate is only around 3.7%? This question is particularly relevant in the euro area as higher inflation rates in Germany facilitate relative price adjustment between Germany, France and Italy. If Germany runs an inflation rate of below 2%, some southern European countries may have to run lower inflation rates in order to adjust their level of competitiveness relative to Germany. Will the break-down in Germany’s Phillips curve lead to deflation in the South?

Here are four reasons why this worry is, at least, exaggerated.

For a start, Germany’s Phillips curve seems to continue to exist as Figure 2 shows. Nominal wage growth is negatively correlated with the unemployment rate. The relationship also holds for the more recent period since the beginning of the crisis, though it is less evident (i.e. the fit is lower). This suggests that as the unemployment rate falls further, nominal wage growth should increase. This, in turn, should eventually push companies to also increase prices. The Phillips curve also exists for real wage growth, which suggests that German workers also see their real income increase.

Figure 2: Nominal wage growth Phillips curve, 1999Q1-2017Q3

Source: Bruegel, Statistisches Bundesamt, Eurostat

Second, the tighter labour market seems to gradually also lead to stronger increases in wage agreements in collective wage bargaining. One obvious example is the recent demand by the IG Metall union to increase wages by 6%, combined with demands for more flexibility on working hours. The increased demands are also starting to be visible in the economy-wide collectively agreed monthly earnings in Germany. As can be seen in Figure 3, in the second quarter of 2017 these have reached the highest increase since 2011.

Third, there has been one major labour supply effect that may have dampened short-term wage increases for some time: immigration. A basic mechanism for adjustment to wage differences and unemployment differences in a monetary union should be immigration. Accordingly, one would expect immigration in Germany to have increased since the start of the crisis, as the German labour market was doing relatively well.

The table below shows that total net immigration from the EU into Germany has increased from negative numbers in 2008 to well above 300,000 in 2015. Gross immigration has more than doubled and reached more than 900,000. We are focusing here on intra-EU migration as it is for a great part directly linked to the labour market, while immigration numbers from outside the EU are heavily influenced by motives other than access to the labour market. Immigrants coming for family reunification or refugees and asylum seekers are often not integrated into the labour market immediately.

We also look at immigration from the entire EU, as the EU has free movement of labour i.e. labour mobility can occur from any EU country and is not solely restricted to the euro area. In fact, it is well established that often workers from eastern Europe’s non-euro-area countries move to different countries in the ‘West’ but then are more quick to move away. For example, a Romanian may have moved in the housing boom to Spain before the crisis only to now work on a German construction side. The break-down across countries shows that much of the increase has originated from Poland, Romania and Bulgaria. Yet, the numbers of immigrants with Italian, Greek and Spanish nationality have also risen substantially.

The numbers therefore suggest that a still somewhat slow wage growth in Germany can at least in part be attributed to immigration.

Fourth, labour force participation in Germany is already quite high and certainly significantly higher than the euro-area average. That suggests that further labour supply increases resulting from rising participation may be more muted in Germany than elsewhere. In turn, this could lead to higher inflation rates in Germany than elsewhere.

In conclusion, German wage and inflation developments are still quite low but there are encouraging signs that wage growth will pick up and, with it, inflation rates. The slack in the German economy is certainly lower than elsewhere in the euro area. Immigration to Germany has played part of the role of adjustment to unemployment rates elsewhere, thereby also reducing the slack there and providing the ground for new wage increases. Overall, however, the adjustment is slow and wage settlements in Germany are certainly rather cautious. Yet, the Phillips curve is still alive and wages do adjust.

 


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.

View comments
Read article More on this topic

Blog Post

Talking about Europe: Die Zeit and Der Spiegel 1940s-2010s

An on-going research project is seeking to quantify and analyse printed media discourses about Europe over the decades since the end of the Second World War. A first snapshot screened more than 2.8 million articles in Le Monde between 1944 and 2018. In this second instalment we carry out an analogous exercise on a dataset of more the 500 thousand articles from two German weekly magazines: Die Zeit and Der Spiegel. We also report on the on-going work to refine the quantitative methodology.

By: Enrico Bergamini, Emmanuel Mourlon-Druol, Francesco Papadia and Giuseppe Porcaro Topic: European Macroeconomics & Governance Date: July 18, 2019
Read article More on this topic More by this author

Blog Post

Opening speech by Bruno Le Maire

Bruno Le Maire, minister of the economy and finance, delivered the opening speech at Bruegel's event “The Eurozone agreement – a mini revolution?”, 8 July 2019.

By: Bruno Le Maire Topic: European Macroeconomics & Governance Date: July 9, 2019
Read article Download PDF More on this topic

Policy Brief

The European Union energy transition: key priorities for the next five years

The new members of the European Parliament and European Commission who start their mandates in 2019 should put in place major policy elements to unleash the energy transition. It is becoming economically and technically feasible, with most of the necessary technologies now available and technology costs declining. The cost of the transition would be similar to that of maintaining the existing system, if appropriate policies and regulations are put in place.

By: Simone Tagliapietra, Georg Zachmann, Ottmar Edenhofer, Jean-Michel Glachant, Pedro Linares and Andreas Loeschel Topic: Energy & Climate Date: July 9, 2019
Read article More on this topic

Blog Post

‘Lo spread’: The collateral damage of Italy’s confrontation with the EU

The authors assess whether the European Commission's actions towards Italy since September 2018 have had a visible impact on the spread between Italian sovereign-bond yields and those of Germany, and particularly whether the Commission’s warnings have acted as a ‘signalling device’ for bond-market participants that it might be difficult for Italy to obtain the support of the ESM or the ECB’s OMT programme if needed.

By: Grégory Claeys and Jan Mazza Topic: European Macroeconomics & Governance Date: July 8, 2019
Read article More by this author

Blog Post

It’s hard to live in the city: Berlin’s rent freeze and the economics of rent control

A proposal in Berlin to ban increases in rent for the next five years sparked intense debate in Germany. Similar policies to the Mietendeckel are currently being discussed in London and NYC. All three proposals reflect and raise similar concerns – the increase in per-capita incomes is not keeping pace with increases in rents, but will a cap do more harm than good? We review recent views on the matter.

By: Inês Goncalves Raposo Topic: European Macroeconomics & Governance Date: July 8, 2019
Read about event More on this topic

Past Event

Past Event

Eurozone agreement: a mini revolution?

What does the new Eurozone budget do, and what does it not do? What are its strengths and weaknesses?

Speakers: Bruno Le Maire and Guntram B. Wolff Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: July 8, 2019
Read article More on this topic More by this author

Podcast

Podcast

Director's Cut: Priorities for the new ECB president

In this Director's Cut of 'The Sound of Economics', Guntram Wolff talks to two of the authors of Bruegel's memo to the new ECB president, Maria Demertzis and Grégory Claeys, to specify the most important issues at the beginning of this eight-year cycle and to clarify the parameters within which the new incumbent will have to work.

By: The Sound of Economics Topic: European Macroeconomics & Governance Date: July 4, 2019
Read article Download PDF

Policy Brief

The threats to the European Union’s economic sovereignty

Memo to the High Representative of the Union for Foreign Affairs and Security Policy. The authors describe the current context and the increasing interlinkages between economics and power politics and the role to play in reinforcing and defending Europe’s economic sovereignty.

By: Jean Pisani-Ferry and Guntram B. Wolff Topic: European Macroeconomics & Governance, Global Economics & Governance Date: July 4, 2019
Read article Download PDF More on this topic

Policy Brief

Preparing for uncertainty

Memo to the president of the European Central Bank. Grégory Claeys, Maria Demertzis and Francesco Papadia present the challenges that the next ECB president will face during the upcoming mandate, reinventing monetary policy in a system riddled with uncertainties.

By: Grégory Claeys, Maria Demertzis and Francesco Papadia Topic: European Macroeconomics & Governance Date: July 3, 2019
Read about event More on this topic

Past Event

Past Event

How comprehensive is the EU political realignment?

Has the left-right divide become obsolete in EU politics?

Speakers: David Amiel, Otilia Dhand, Nicolas Véron and Silke Wettach Topic: European Macroeconomics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: June 25, 2019
Read article Download PDF More on this topic

Policy Contribution

Redefining Europe’s economic sovereignty

This Policy Contribution delves into the position of the EU in the current global order. China and the United States increasingly trying to gain geopolitical advantage using their economic might. The authors examine the specific problems that China and the US pose for European economic sovereignty, and consider how the EU and its member states can better protect European economic sovereignty.

By: Mark Leonard, Jean Pisani-Ferry, Elina Ribakova, Jeremy Shapiro and Guntram B. Wolff Topic: Global Economics & Governance Date: June 25, 2019
Read article More on this topic More by this author

Podcast

Podcast

Deep Focus: Making a success of EU cohesion policy

Bruegel senior fellow Zsolt Darvas talks to Sean Gibson in this Deep Focus podcast about how the EU can improve its cohesion policy, citing the best examples of its implementation and stressing the methodological difficulties in measuring its effectiveness.

By: The Sound of Economics Topic: European Macroeconomics & Governance Date: June 20, 2019
Load more posts