Institutions and collective bargaining agreements that link wages with inflation are seen by the ECB as being incompatible with monetary union. With Cyprus having such a wage indexation system, called the ‘Cost of Living Adjustment (‘COLA’), it does not come as a big surprise that the recent 10 billion euro Troika bailout loan imposes a radical reform of the Cypriot system. The Troika’s key intention is to weaken this system so as to push nominal and real wage dynamics down.
A first intervention is to adopt a lower frequency of adjustment. Wages will be indexed to inflation only once a year, instead of twice. This provides employers a longer period of time during which their output prices are increasing without a corresponding increase in nominal wages. A second measure is to establish a mechanism that imposes an ‘automatic suspension and derogation procedures during adverse economic conditions’: If GDP contracts in a second and third quarter of a given year, the indexation foreseen in the following year will not take place. Thirdly, there’s a move from full to partial indexation with the adjustment in wages being limited to just 50% of the rate of increase of prices.
Furthermore, the Troika invites private sector social partners to pursue a tripartite agreement on the application of the reformed system. As it has already predetermined what should be the key outcomes of such a reform, this is paying mere lip service to the principles of respecting social dialogue and the autonomy of collective bargaining. And to be completely certain that Cypriot trade unions do get the message, the Troika explicitly adds that wage indexation ‘is foreseen not to be applied in the private sector until 2014, whereas it is suspended in the wider public sector for the next three years’.
Combining this reform with the other elements of the Cypriot structural adjustment program (general freeze on public sector wages increases, suspending minimum wage increases, increasing VAT rates and at least a 17% increase in fees for public services), it is clear that wage earners in Cyprus are set to suffer a serious impoverishment of working and living standards.
At the same time, the Troika intervention in the Cypriot wage setting will also have consequences for other countries that have similar wage indexation systems.
Whereas trade unions in Spain unions suspended their wage indexation clauses in collective agreements already back in 2010 and are now involved in what they call a process of ‘gradual de-indexation’ (with for example several company level negotiations replacing indexation clauses with productivity clauses), indexation still exists in Belgium, Luxembourg and Malta. Although these member states are at the moment not in the eye of financial market turmoil and therefore not the object of a Troika program, the Commission and its Country Specific Recommendations exert pressure to reform these indexation systems as well. The reforms now being pushed through in Cyprus may come to serve as a new benchmark, making the Commission’s already existing policy recommendations for these three economies even stricter.
Finally, it needs to be stressed that wage indexation systems , while constituting a good starting basis to provide all workers with a fair share in the overall progress of the economy, are not per definition in contradiction with the requirements of the single currency. In particular, if and when wage indexation is part of a system of coordinated wage bargaining, the ECB’s objective of price stability can be taken into account in an explicit and efficient way. Moreover, the wage adjustment involved can then be shared in a more equitable way, with indexation safeguarding the real value of wages for all workers while shifting the burden of disinflation to those companies and sectors which otherwise would go for real wage increases.
Belgium is a case in point. Despite, or to put it more correctly, thanks to the fact that Belgium indeed combines wage indexation with a coordinated system of wage bargaining, wage developments during the first decade of the single currency have been exemplary. Similar to France (see graph), developments in unit wage costs have closely followed the 2% line, a line corresponding with the ECB’s price stability target of ‘below but close to 2% inflation’. If there is anything wrong with the picture in the graph below, it is not Belgium or France experiencing too high wage increases because of the strength of their wage formation systems but Germany where wage have been squeezed to the bone during many years. Not Belgian (indexation) or French (statutory minimum wages) wage formation systems that need to be weakened but German collective bargaining institutions that need strengthening. Is it so hard for organisations such as the ECB, the IMF and DG ECFIN to understand this point?
Compounded increase in unit wage costs since 1999