Little chance of wage-price spiral, says Finance Minister, but businesses must do their part by reining in profits

Maltese businesses must stop asking Government to absorb any part of the mandatory increase in wages tied to inflation. Instead, they must look within and use the high profits registered in the post pandemic period as a buffer against future wage increases, while investing retained earnings into increasing their capacity and meeting growing demand, thereby limiting inflationary pressures.

This was a central message of Finance Minister Clyde Caruana’s pre-budget arguments, where he underscored the extensive subsidies and support already extended by Government, particularly in fixing the prices of energy and fuel.

The subsidies constitute and enormous financial outlay by the state, without which inflation would be far higher – further driving up the Cost of Living Adjustment (COLA), which is linked to inflation.

Minister Caruana’s strong statement follows widespread calls by businesses and business organisations for Government to step in and limit the impact of next year’s COLA increase, estimated to be around €13 per employee per week.

Should that figure hold true, it would constitute the largest ever COLA increase, beating out the €9.90 increase given for 2023. COLA increases need to be paid by employers, with the mechanism designed to help salaries remain in step with prices.

The Pre-Budget Consultation Document 2024, released on Wednesday (yesterday), points out that corporate profits rebounded strongly across the EU after suffering a decline during the pandemic.

“Interestingly, those countries that observed the highest increase in unit profits have registered the strongest increase in headline inflation during 2022,” reads the document. “Also, increases in unit profits have largely outpaced inflation, which is the case for Malta.”

While conceding that “this does not necessarily mean that inflation is driven by increased profit margins,” the Ministry effectively renders this a moot point, since whatever the margins, profits remain “the most significant driver of domestic price pressures.”

The document notes that the share of economic output going to firms and capital owners in the forms of profits, dividends and rents has surged, going from 50.5 per cent in 2020 to 54.6 per cent in 2022.

In fact, the cost of labour’s contribution to domestic inflation has been consistently lower than the impact of profits, “consistent with firms having the ability to pass on the higher costs more quickly, while wages take longer to adjust.”

Fears of a wage-price spiral are further undermined when noting that real wages have declined, with the 3.3 per cent growth in nominal wages outpaced by inflation. The document also notes that, “up till now, the acceleration in wages in Malta has only come following price increases and has now started to moderate as inflation retracted from its peak.”

“This may imply that higher wage demands came as a response to past rises in inflation, rather than due to the expectation of further price rises, which would lead to a self-reinforcing wage-price spiral.”

Wages are expected to continue increasing, driven also by a tight labour market, but as inflationary pressures have already subsided, “one would expect expectations to remain contained.”

The bottom line for businesses is that Government is not planning to introduce any significant measures to alleviate the impact of the COLA increase, deeming the substantial support it is currently extending through energy and fuel subsidies to be enough.

Instead, businesses will have to dig into their profits, with the Ministry arguing that “the recorded increase in profits during the recovery period can act as a buffer against future wage increases.”

“Moreover, possible increases in retained earnings can be allocated towards investments which can aid in meeting growing demand by increasing capacity and thereby limiting inflationary pressures. To this end, the rise in profits has the potential to avert a wage-price spiral from taking hold.”

The question now is how this macro view translates down to individual businesses. While many have seen their profits increase, some, like those in the catering sector most hard hit by inflation – to which food prices have been a major contributor – claim to operate on wafer-thin margins.

The Minister is calling on businesses to dig into their accumulated profits, but what about those that have failed to accumulate enough?