As nations from Greece to Spain battle recessions and record unemployment, workers in Germany are winning some of the biggest pay increases in two decades, with public service staff set to gain 6.3 percent more by the end of next year. That’s widening the gaps between Europe’s largest economy and its euro- area peers, making the ECB’s one-size-fits-all monetary policy less effective.

“While the German wage deals are good news for workers, Draghi is unlikely to be popping the champagne corks,” saidCarsten Brzeski, an economist at ING Group in Brussels. “ECB policy is inappropriate for each individual country in the euro area; it’s too loose for Germany and too restrictive for the periphery. It could end up making the divergences even bigger.”

Draghi is facing the possibility of price pressures building in Germany just as they wane in nations that have been pushed into austerity drives by the sovereign debt crisis. Only months after the ECB cut its benchmark interest rate to a record low and pumped more than 1 trillion euros ($1.3 trillion) of cheap cash into Europe’s banking system to stem the crisis, Draghi warned of “upside risks” to inflation and started talking about how to withdraw the emergency measures.

German Reforms

ECB officials meeting in Frankfurt today will keep their key rate at 1 percent, according to all 57 economists in a Bloomberg News survey. The decision is due at 1:45 p.m. and Draghi holds a press conference 45 minutes later.

Labor-market reforms last decade increased Germany’s competitiveness, transforming the economy from the so-called “sick man of Europe” into the region’s locomotive. German nominal gross wages rose an average 2 percent a year between 2000 and 2009, according to Eurostat, less than half the 4.7 percent annual average gain in Spain.

Now, with unemployment at a two-decade low and exports to countries outside the euro area partially shielding the economy from the debt crisis, German workers are asking for a bigger slice of the pie.

IG Metall, Europe’s biggest labor union with about 3.6 million workers, is demanding 6.5 percent more pay.

‘Turning Point’

Germany’s 2 million public service workers are set for a 6.3 percent raise over two years under an agreement reached with the government, the Ver.di union said on March 31. That would be the biggest increase negotiated by the union since 1992.

“The agreement will likely mark a turning point in wage developments in Germany after years of wage restraint,” said Klaus Baader, an economist at Societe Generale SA in Hong Kong. “Given the robustness of Germany’s economy and the continued decline in unemployment, the fact that wage growth is rising is not surprising. If anything, it is surprising it has taken so long.”

Germany’s economy expanded 3.7 percent in 2010 and 3 percent in 2011 before the debt crisis applied a brake. The European Commission projects growth of 0.6 percent this year. That compares with its forecast for a 0.3 percent contraction in the euro-area economy as output declines in Italy, Spain, Belgium, Greece, Cyprus, the Netherlands, Portugal and Slovenia.

Rebalancing Process?

Some economists say rising German wages are part of a rebalancing that has to take place within the 17-nation euro zone. Germany, which has long relied on exports for growth, needs to spur household spending, while peripheral nations have to cut wages to improve competitiveness and export performance.

Greece has slashed its minimum wage by 22 percent as part of efforts to make the economy competitive again.

Still, “the ECB is in a dilemma,” said Holger Sandte, chief economist at WestLB Mellon Asset Management in Dusseldorf. “It’s not an optimal currency area. The economy is terrible in some parts and okay in others, and prices are diverging.”

House prices in Spain plunged 11.2 percent last year; in Germany they rose 5.5 percent, the most since the country’s post-reunification property boom in the early 1990s.

Bundesbank President Jens Weidmann is among the ECB policy makers to have begun talking of an eventual exit from the central bank’s emergency lending measures, saying they entail significant risks.

Draghi, in an interview with Germany’s mass tabloid Bild newspaper, said he shares Weidmann’s concerns and “all members of the Governing Council have taken to heart Germany’s stability culture.”

‘Nowhere Close’

“Exit talks are in large part targeted at Germans and other inflation hawks concerned about rising inflation and the emergence of asset-price bubbles,” said Marco Valli, chief euro-area economist at UniCredit Global Research in Milan. “They want to show they have the tools available to tackle inflation, but they’re nowhere close to a starting the exit.”

While Draghi will probably affirm his view that the euro- area economy has stabilized, contracting manufacturing output suggests the recovery remains fragile.

At the same time, euro-area inflation, driven by higher oil prices and tax increases, will breach the ECB’s 2 percent limit for a second straight year in 2012.

The ECB predicts it will slow to 1.6 percent next year. Still, the days of counting on Germany to exert downward pressure on the rate may be coming to an end, said Juergen Michels, chief euro-area economist at Citigroup in London.

Weak domestic demand and austerity measures will probably result in deflation in periphery countries, giving the ECB room to increase stimulus, he said, yet in Germany price pressures are likely to remain elevated.

“As a consequence, we expect that in contrast to the period since introducing the euro, German inflation rates will be above the euro-area average over the medium term,” Michels said.

To contact the reporter on this story: Jana Randow in Frankfurt at jrandow@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net

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