Mr. Schlichting, Mr. Voggeser, after years of ultra-low interest rates, and as a result of current measures by central banks to address this, the topic of inflation is once again the focus of public attention...
How is this impacting companies in terms of human resources, and compensation management in particular?
David Voggeser: High inflation rates and the challenges associated with them aren’t altogether unheard of. In countries such as Argentina, Belarus and Venezuela, hyper-inflation is a familiar occurrence. Inflation has also dramatically increased in Turkey over the past few years.
Looking at compensation, how are companies within these markets responding to such developments?
David Voggeser: Variable elements in particular are being tied to a more stable currency, usually the euro or dollar. In the case of expats, there are models through which the value of host country currency is in part secured to an equivalent home currency value e.g. a one third savings ratio approach.
Carsten Schlichting: In countries with very high inflation, i.e. 20 percent or more, domestic employee salaries are raised every six months, or every quarter if the cost of living rises significantly beyond this rate.
Do countries with the reference currencies you mentioned now also need take action?
David Voggeser: It’s true that many have been surprised by the current rate of price increases in countries that have long reported no or only very minimal inflation. But we also need to recognize that the rates of inflation we’re seeing now weren’t actually that unusual ten or even fifteen years ago. We, and the leading economic nations in particular, were just fortunate enough to experience a sustained phase of economic stability that was fueled by the central banks conducting a very specific monetary policy. That picture is changing right now.
Why does this present a challenge for companies?
David Voggeser: Inflation is measured through specific baskets of goods. This involves analyzing how much more or less the goods and services in a particular basket cost, and that of course presents a challenge for companies from a purchasing point of view.
... but also in terms of human resources!
David Voggeser: Absolutely. Higher prices mean that employees can afford less with their income in relative terms.
Let’s stay with wages/salaries: Will we see any exceptional salary adjustments in the Eurozone and the U.S.?
David Voggeser: As things stand today; no! Normally, inflation is leveled out via annual salary adjustment where salaries are adjusted in line with inflation. And I don’t currently see any inflation in the Eurozone necessitating exceptional adjustment.
Carsten Schlichting: Experienced Comp & Ben managers will recall that intra-year, inflation-driven adjustments of wages and salaries due to rates below ten percent were unusual and still rare above that threshold. Having said that, the trepidation in some quarters is understandable. But it’s more to do with a need for communication; we need to get used to times without zero interest rates again.
This development will however have implications for collective bargaining, won’t it?
Carsten Schlichting: We expect the next round of collective bargaining in the German metal and electrical industries to result in a settlement of around three to four percent, which will then also guide non-tariff employee budgets – as usual the lower pay bands will be more aligned to the collective agreement than those higher up, where there may well be deviations either way.
But salary budgets are usually ahead of inflation, aren’t they?
David Voggeser: As a rule, salary isn’t just adjusted in line with inflation, but also according to structural developments, i.e. promotions or salary progression that take into account an employee’s position within the pay band, their individual gain in experience and their performance.
Carsten Schlichting: In the manufacturing industry, budgets above the inflation rate are usually dependent on advances in productivity as otherwise there wouldn’t be anything to allocate. However, it should be borne in mind that, unlike in the case of collective bargaining, budgets for non-tariff employees do not translate to a direct increase in personnel costs, as over the course of the year, employees higher up in the salary band tend to retire and lower-paid employees then move up. This structural movement amounts to half a percentage point for larger companies and finances a correlating structural budget.
Won’t the issue of exceptional compensation adjustment simply be settled with the next salary increase?
David Voggeser: As I said before, we’re just no longer used to experiencing inflation rates above two percent, even though this was the situation in Germany not all that long ago. In 1992, inflation reached an annual rate of 5.1 percent. 1991 and 1993 were also above the two percent threshold at 3.7 and 4.4 percent, respectively.
Carsten Schlichting: Another point to consider is that salary increases that took place in November, for example, in companies using a differing fiscal year model, were based on a significant rate of inflation, meaning that increases then were possibly closer to three percent.
Does this mean those salary increases were insufficient?
David Voggeser: Salary increases always reflect a mix of compensation for past inflation and expected inflation. So part of the current higher inflation will only be compensated with the next salary increase.
Many companies are in the process of raising salaries as we speak and are asking themselves what an appropriate regular compensation adjustment looks like...
Carsten Schlichting: The thing to remember is that higher inflation rates have only been seen in the last few months. Even in the U.S., inflation was still below three percent in March 2021. And many economic institutes and other experts are forecasting a sharp downturn in inflation from mid 2022. So, the recent 7 percent inflation peak in December doesn’t mean that salaries need to be raised on that scale.
What advice do you have for companies right now?
David Voggeser: There will certainly be a salary adjustment that exceeds those of recent years. And companies should use this as an opportunity. Here, we advise not using the current month’s inflation rate, but a calculated value based on the inflation of previous and upcoming months.
Carsten Schlichting: ...and companies should differentiate to an even greater extent than before with this higher salary budget, instead of applying uniform increases across the board. This could be done on the basis of long-term performance, but also, for example, in order to adjust compensation that is deemed too low in an internal comparison – the key point being fair or equal pay. In principle, targeted differentiation could also alleviate the pressure on positions critical for success and so prevent unwanted fluctuation of top talent.
Mr. Schlichting, Mr. Voggeser, thank you for your insights.