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SINDELFINGEN, Germany (Reuters) - Germany's largest industrial union IG Metall will get its biggest pay rise in 20 years after agreeing to a 4.3-percent pay increase deal with employers at the end of marathon talks that ended just before dawn on Saturday.
The wage deal, which is more than double Germany's inflation rate of about 2 percent, will give some 3.6 million engineering workers a 4.3 percent pay rise for 12 months from May 1 and set a high benchmark for other unions in Europe's largest economy.
It will be the biggest annual increase since IG Metall won a 5.4 percent pay rise in 1992, according to union officials.
The agreement for the sector at the heart of the German economy came after all-night negotiations. Officials from the two sides confirmed the breakthrough at a news conference after Reuters had earlier reported the outlines of the deal.
The talks between the giant union and officials representing Germany's leading manufacturing sector that includes carmaking powerhouses such as Volkswagen, Daimler and BMW were closely followed across Europe, which is battling to overcome a sovereign debt crisis that has been exacerbated by imbalances linked to low wage growth in Germany in the last decade.
The size of the deal is a signal that Germany is willing to tolerate higher wages, even if that pushes up inflation, in order to help weak euro members on Europe's southern periphery.
German government leaders, including Finance Minister Wolfgang Schaeuble, have made unusual forays into the wage talks this year, urging employers to give workers larger increases after a decade of restraint.
More money in the wallets of German consumers could boost demand for imports from European partner even though Germans have had a visceral aversion to higher prices ever since hyperinflation under the Weimar Republic in the early 1920s wiped out the savings of an entire generation.
Economists believe higher labour costs in Germany could, over time, also make products manufactured elsewhere in Europe more competitive relative to those made here.
More immediately, the IG Metall deal ends a disruptive series of partial walk-outs and warning strikes across the country by the union to press demands for a 6.5 percent pay rise. Employers had offered a rise of just under 2.6 percent.
Union officials had threatened a full-fledged strike in the weeks ahead, which would have harmed the sector that is thriving thanks to solid economic growth in Germany and the country's coveted export goods.
Labour unions in Germany this year are getting above-average pay increases after a decade of wage deals that even failed to keep pace with the country's inflation rate. The moderate deals had improved the country's competitiveness and helped the unemployment rate fall to a two-decade low.
"We have hit the upper limit of what the companies can deal with," said Rainer Dulger, who led employers through five rounds of talks totalling 37 hours at a news conference in the southwest town of Sindelfingen near Stuttgart.
The deal will cost employers an estimated seven billion euros a year.
"This was a fair compromise," said Berthold Huber, head of the IG Metall union. "You don't always get what you want in wage talks. Both sides had to give ground and this agreement wasn't easy for either side to accept."
Martin Kannegiesser, head of the employers association, said: "A strike in the sector has now been avoided with this agreement that will give workers a real increase in pay."
The 4.3 percent wage increase will be for the 12 months from May 1 to April 30, 2013, officials said. But the agreement formally takes effect from April 1, 2012 and covers a 13-month period. Workers will get no raise for the month of April 2012.
The officials said even though their deal only nominally covers the important southwest district of Baden-Wuerttemberg it will be used as a basis for identical increases for IG Metall workers nationwide.
Baden-Wuerttemberg is home to German manufacturers including Daimler (DAIGn.DE) and Heidelberger Druck (HDDG.DE), and engineering wage deals there traditionally set the tone for agreements across the rest of the country.
It is difficult to compare IG Metall deals because they sometimes cover periods longer than or less than a year and often include one-off payments. For 2011 IG Metall workers got a 2.7 percent wage increase. The 4.3 percent deal for 2012 surpassed the most recent high of 4.1 percent in 2007 when workers also got a one-off payment of 400 euros.
While wages in the crisis-hit euro zone periphery are falling, German workers are enjoying the benefits of a robust economy and a healthy labour market after a decade of wage restraint, in turn fuelling the economic divergence that has underpinned the currency area's debt crisis.
In Germany this year, the wages of around 9 million workers are up for negotiation and deals agreed so far have outstripped inflation. In March, the 2 million workers in Germany's public sector won a 6.3 percent pay rise over a 24-month period and Schaeuble has said wages in Germany can afford to grow faster than in other parts of the European Union.
Writing by Erik Kirschbaum; Editing by Eric Walsh