Time to end automatic wage indexation?

Belgium’s system of automatic wage indexation is an exception in Europe. It is a mechanism that binds wage increases to rises in the cost of living, in order to guarantee a constant level of purchasing power for workers and those who receive benefits. However, its existence is being questioned by some international organisations and European authorities, as well as provoking disagreement between social partners – employers want it scrapped, while unions want to keep it.

What is wage indexation?

In Belgium, wages are linked to the retail price index, in order to maintain the purchasing power of households at the same level, regardless of how the cost of living changes.

Household purchasing power is the ability of a household to buy goods and services from its income, either money earned or received in benefits. At a defined price level, any rise in income will raise purchasing power, and purchasing power will fall if the cost of living increases more than earnings.

Prices of goods and services tend to rise over time, in a phenomenon called inflation. Inflation has many different causes: variation of demand or supply, increase of raw material costs or energy cost, and so on. In order to evaluate it, there is a retail price index that is based on the price of around 500 different common products. This ‘household basket’ represents the average purchase of a household.

However, since 1992, certain ‘harmful’ products such as oil, tobacco and alcohol (whose prices often fluctuate) are not included in this basket.

A regular calculation of the retail price index enables watchers to follow fluctuations in the cost of living and its impact on the purchasing power of households. It is on this basis that Belgium’s automatic wage indexation is calculated. Its goal is therefore to maintain the purchasing power of households at the same level, by binding wages to increases in the cost of living.

A unique mechanism in Europe

Belgium and Luxembourg are the only countries in Europe where this kind of mechanism still exists. But this uniqueness has been the subject of disagreement between employers and trade unions for a long time, and both countries are also finding themselves under some international pressure to remove the indexation system.

Divergence of social partners

The Belgian Federation of Employers (FEB/VBO), the largest employers’ representative organisation, has strongly criticised the automatic wage indexation for a long time. It says labour costs are already too high in Belgium and this kind of mechanism is economically counterproductive, because it acts as a brake on competitiveness in the current global economy. FEB/VBO considers the Belgian wages policy too rigid and is pleading for a new, more flexible system.

On the unions’ side, the automatic wage indexation is seen as the core of the Belgian welfare state and its national wages policy. Trade unions do not want to see it unravel in favour of a more flexible system that would be disadvantageous for workers and people on benefits.

More than ever, in the current economic crisis, all sides agree that indexation plays a key role in the national economy and that incomes and purchasing power have already been hard hit by the crisis, without taking this social measure away as well. Its withdrawal would only impoverish people further, say the social partners.

International questioning

For a long time, wage indexation has been questioned by international institutions such as the Organisation for Economic Co-operation and Development (OECD) and the International Monetary Fund (IMF), which consider it a constraint on competitiveness and growth. Both have encouraged the Belgian government to withdraw it.

As an answer to the recession and under pressure from France and Germany, European authorities proposed a new competitiveness pact in February 2011. The end of automatic wage indexation was one of seven points they considered essential for economic growth in Europe – a proposition clearly aimed at Belgium. Even though this pact has been widely rejected, it shows how this mechanism is being questioned more than ever at international level.

What does the future hold?

The debate about the future of automatic wage indexation formed part of the recent national cross-sectoral bargaining. Employers argued that the international and economic context clearly showed the mechanism is no longer suitable. However, trade unions insisted that indexation should be adapted to counter the negative impacts of the crisis. This topic was one of the reasons why a well-balanced agreement has not been found.

Facing many pressures at national and international level, it is not certain this unique device will remain in place for much longer. However, rather than just being an economics issue, this topic seems to be an important question about the type of society Belgium wants to live in.

Simon Erkes, Institute for Labour Studies (IST), Catholic University of Louvain (UCL)