(This interview appeared in SAFE Newsletter Q4 2018)
Alfons Weichenrieder is Professor of Economics and Public Finance at Goethe University and Member of the Policy Center Core Team at SAFE. In this interview, he talks about the distributional effects of inflation in Europe. Weichenrieder is also a Visiting Professor at the Vienna University of Economics and Business and a member of the Scientific Advisory Board of the German Federal Ministry of Finance.
In your study, you find that price increases tend to put a higher burden on low earners. Why is that?
Households have individual spending budgets and different spending structures. Food, housing, or transport take up a higher proportion of income in poorer households than in wealthier ones. In the last 15 years, however, it is precisely these spending groups which have become more expensive – a development which does not only apply to Germany, but to most other European countries, too.
To what extent do poorer households have the ability to manage their own individual inflation rates by changing their consumption habits?
There is always some space somewhere, but there are good reasons why richer households have more leeway for change: it is harder to avoid essentials than luxury goods.
In your study, you evaluated the years from 2001 to 2015 – a period in which the financial crisis struck. What role do such extreme events play?
I think that the crisis played a subordinate role in our results. More important than the financial crisis was the rise in the price of food during this time: in 2008 and 2009, food prices rose sharply internationally. The crisis had, if anything, probably a dampening effect on inflation, through rental rates for example.
You studied data from 25 member states of the European Union. As the study shows, the “discriminatory inflation” varies from country to country. Where do those differences come from?
Firstly, our paper shows a clear development: while there are hardly any differences in southern European countries such as Portugal or Italy, countries like Great Britain or Finland were affected particularly strongly. What is striking is that many of the countries with the highest differences in inflation rates are the eastern European countries like Bulgaria or Romania, which also have higher overall inflation. That is because they still have some catching up on labor productivity. Moreover, if inflation rates are not so high in a relatively stagnant economy such as Italy, then the disparities there are not that high either.
In comparison to the other European countries, where does Germany stand?
Germany was in the lower mid-field. In the European average, the inflation rate for the poorest 10 percent of the population was 0.7 percentage points higher than for the richest 10 percent. If we look at the average inflation rate of 2.7 percent, we find that this is not negligible; in Germany, the difference was only 0.4 percentage points annually. Nevertheless, we can show in the study that in the German representative sample, the commodity bundle of the poorest 10 percent has risen overall by about 4.5 percent more than that of the richest 10 percent.
The issue of whether inequality is increasing in Germany and Europe is the subject of intense discussion. Do you think that inequality is underestimated? What contribution does your study make?
One result of our study is that besides the development of measured inequality, there is one element that has been left out of the statistics: especially in Germany, since 2005, the argument has often been made that inequality is not increasing any more – or at least not after redistribution. Nevertheless, there is a strong feeling that the gap continues to widen, and the difference in price development of the rich and the poor households could be a factor which can,at least partially, explain this perception. Looking at Europe as a whole, it is quite clear that the gap between poor and rich has continued to widen. Even considering the development of incomes after redistribution, the Gini coefficient, which averages 0.3 for our country sample, has increased in average by about 0.02. That is about 7 percent more. For Germany, however, the effects are much lower.
The European Central Bank (ECB) is following a price stability target of below, but close to 2 percent. How reasonable is that policy when the rate of inflation within societies turns out to be so different?
I do not think that the ECB’s monetary policy should also pursue redistribution targets. A central bank’s chances of influencing the prices of different bundles of goods are also very limited. Perhaps, however, the ECB should consider whether a higher basic rate of inflation might be desirable in an heterogeneous economic area: that is because pay cuts are very difficult to convey; countries with high labor demand could therefore inflate more and open up the potential for regions lagging behind to become more competitive.
How can the state influence “discriminatory inflation”?
The state has influence because of the significant power it exercises over energy prices – for electricity or fuel, for example; politicial decisions can also make living costs more expensive. Conversely, the state has the ability to lessen the increases in prices in urban areas through providing better infrastructure or better local transportation to commute, without necessarily building more. One answer might be to use tax revenues from environmental taxes to offer relief to the lower income levels. In the German context, for instance, it would be better to lower sales taxes than to abolish the solidarity surcharge.
What questions does this study throw up for future research?
Inflation does not necessarily have to continue disadvantaging lower-income groups. In this respect, we must analyze price developments for different households in the following years. An interesting approach is to keep thinking about special countermeasures, such as higher transfers for income groups lower down the income scale.
Gürer, E. and Alfons J. Weichenrieder (2018), “Pro-rich Inflation in Europe: Implications for the Measurement of Inequality”, SAFE Working Paper No. 209.