3.8% inflation: why it shouldn’t be a problem – economy

Generally, Paul Krugman does not think highly of Germans and the way they handle money. It’s crazy to worry about inflation in Europe now, the New York Nobel laureate said in an interview with South Germans. The higher inflation rate is a temporary phenomenon. Krugman’s statement was quite premonitory. A few days later, the Federal Statistical Office published its estimate of inflation in July. He turned out to be surprisingly high and apt to spark old fears in Germany, in Krugman’s mind. “Inflation Shock” was the front page headline of the Bild newspaper.

First the numbers: in July, inflation reached 3.8% – the highest value in 25 years and more than experts had expected. In the course of the year, inflation could even reach 5%, estimates the President of the Bundesbank, Jens Weidmann. There are three main reasons for this: First, the VAT reduction has expired. It was introduced in July 2020 to support the economy. Now the old rates of 19% and 7% apply again, which of course is reflected in the statistics. Second, energy has become more expensive because the price of oil increases and because CO2 has been taxed. Third, there are delivery bottlenecks, for example with microprocessors. As Krugman said, these are all transient phenomena. In the coming year, inflation will drop to 2%, predicts the Ifo Institute in Munich. No economist therefore demands it. the European Central Bank (ECB) must tighten the euro due to the new figures.

So much for the economics of the problem. But there is also a social side and a socio-psychological side. For the first time in ten years, conventional wages will rise more slowly than consumer prices in 2021, according to the union-affiliated Institute for Economic and Social Sciences (WSI) in Düsseldorf. For employees, who can expect a 1.6% wage increase, this means a real loss of purchasing power. The Verdi services union has already called for pay increases. It is not acceptable “that many employers try to pass on their problems linked to the crisis to the employees or that they inflict themselves by lowering wages and that the employees accept a loss of purchasing power” . If unions succeed, inflation could solidify, as the experience of the 1970s shows.

Inflation is discussed more nervously in Germany than in the United States, for example

And then there is German history and its consequences for the culture of stability in the Federal Republic. It can be argued how much the trauma of the hyperinflation of 1923, when millions of Germans lost their savings, really is still in the collective memory. Krugman rightly points out that Hitler came to power in 1933 after deflation, the catastrophic fall in prices and therefore the exact opposite of inflation. However, the post-war period certainly plays a role in the memory, the experience that a stable currency was at the start of the path to democracy and prosperity. On July 1, 1990, when the D-Mark was introduced to the GDR, East Germans learned what it means to have real money.

According to these experiences, European monetary union and the introduction of the euro could only be implemented in Germany because the ECB adopted the German culture of stability. Their official mandate is to ensure price stability – and nothing else. A clear difference with the US Federal Reserve, which according to its mandate should aim for “a maximum of jobs, stable prices and moderate long-term interest rates”. A consequence of the German culture of stability is the debt brake in the Basic Law, which since 2011 obliges federal and state governments to balance their budgets in normal times.

The inflation debate in Germany is therefore different and more nervous than in Britain or the United States, for example, where inflation reached 5.4% in June. President Joe Biden doesn’t care about those numbers, but is betting that the US economy will come out of the crisis. In order to be able to finance its huge investment program, the State would have to go into massive debt, the deficit will drop to 16% of gross domestic product this year (Germany: 7.5%). There are individual critics who fear that Biden may be doing too many good things and triggering an inflationary spiral. However, the financial markets do not share this fear. Investors relentlessly buy US government bonds even if they lose a lot of money at an interest rate of 1.25%. German government bonds even have a negative interest rate of 0.45% and are still in demand.

If the markets were worried about inflation setting in, the results would be very different.

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